Full text of "Affordable housing goals of government sponsored enterprises : hearing before the Subcommittee on Housing and Community Development of the Committee on Banking, Finance, and Urban Affairs, House of Representatives, One Hundred Third Congress, first session, November 19, 1993"

AFFORDABLE HOUSING GOALS OF
GOVERNMENT SPONSORED ENTERPRISES

Y 4, B 22/1; 103-103

Affordable Housing Goals of Governn. . . UMLt

aHi-XitiE THE

SUBCOMMITTEE ON
HOUSING AND COMMUNITY DEVELOPMENT

OF THE

COMMITTEE ON BANKING, FINANCE AND

URBAN AFFAIRS
HOUSE OF REPRESENTATIVES

ONE HUNDRED THIRD CONGRESS

FIRST SESSION

NOVEMBER 19, 1993

Printed for the use of the Committee on Banking, Finance and Urban Affairs

Serial No. 103-103

MAY 2 4 mif

-t-' ' ■■ f"^ • ]

U.S. GOVERNMENT PRINTING OFFICE
74-111 CC WASHINGTON : 1994

For sale by the U.S. Government Printing Office
Superintendent of Documents, Congressional Sales Office. Washington. DC 20402
ISBN 0-16-043954-X

W AFPORDABLE HOUSING GOALS OF
O GOVERNMENT SPONSORED ENTCRPRISES

4. B 22/1; 103-103

Ffordable Housing Goals of Governn... llNvT

anfUKE THE

SUBCOMMITTEE ON
HOUSING AND COMMUNITY DEVELOPMENT

OF THE

COMMITTEE ON BANKING, FINANCE AND

URBAN AFFAIRS
HOUSE OF REPRESENTATIVES

ONE HUNDRED THIRD CONGRESS

FIRST SESSION

NOVEMBER 19, 1993

Printed for the use of the Committee on Banking, Finance and Urban Affairs

Serial No. 103-103

«4y 2 4 JQS4

U.S. GOVERNMENT PRINTING OFFICE
74-111 CC WASHINGTON : 1994

For sale by the U.S. Government Printing Office
Superintendent of Documents, Congressional Sales Office, Washington, DC 20402
ISBN 0-16-043954-X

HOUSE COMMITTEE ON BANKING, FINANCE AND URBAN AFFAIRS

HENRY B. GONZALEZ, Texas, Chairman

STEPHEN L. NEAL, North Carolina
JOHN J. LaFALCE, New York
BRUCE F. VENTO, Minnesota
CHARLES E. SCHUMER, New York
BARNEY FRANK, Massachusetts
PAUL E. KANJORSKI, Pennsylvania
JOSEPH P. KENNEDY II, Massachusetts
FLOYD H. FLAKE, New York
KWEISI MFUME, Maryland
MAXINE WATERS, California
LARRY LaROCCO, Idaho
BILL ORTON, UUh
JIM BACCHUS, Florida
HERBERT C. KLEIN, New Jersey
CAROLYN B. MALONEY, New York
PETER DEUTSCH, Florida
LUIS V. GUTIERREZ, Ilhnois
BOBBY L. RUSH, Illinois
LUCILLE ROYBAL-ALLARD, California
THOMAS M. BARRETT, Wisconsin
ELIZABETH FURSE, Or^on
NYDIA M. VELAZQUEZ, New York
ALBERT R. WYNN, Maryland
CLEO FIELDS, Louisiana
MELVIN WATT, North Carolina
MAURICE HINCHEY, New York
CALVIN M. DOOLEY, California
RON KLINK, Pennsylvania
ERIC FINGERHUT, Ohio

JAMES A. LEACH, Iowa

BILL McCOLLUM, Florida

MARGE ROUKEMA. New Jereey

DOUG BEREUTER, Nebraska

THOMAS J. RIDGE, Pennsylvania

TOBY ROTH, Wisconsin

ALFRED A. (AL) McCANDLESS, California

RICHARD H. BAKER, Louisiana

JIM NUSSLE, Iowa

CRAIG THOMAS, Wyoming

SAM JOHNSON, Texas

DEBORAH PRYCE, Ohio

JOHN LINDER, Georgia

JOE KNOLLENBERG, Michigan

RICK LAZIO, New York

ROD GRAMS, Minnesota

SPENCER BACHUS, Alabama

MIKE HUFFINGTON, California

MICHAEL CASTLE, Delaware

PETER KING, New York

BERNARD SANDERS, Vermont

Subcommittee on Housing and Community Development

HENRY B. GONZALEZ, Texas, Chairman

BRUCE F. VENTO, Minnesota
CHARLES E. SCHUMER, New York
KWEISI MFUME, Maryland
JOHN J. LaFALCE, New York
MAXINE WATERS, California
HERBERT C. KLEIN, New Jersey
CAROLYN B. MALONEY, New York
PETER DEUTSCH, Florida
LUIS V. GUTIERREZ, Illinois
BOBBY L. RUSH, Illinois
LUCILLE ROYBAL-ALLARD, California
THOMAS M. BARRETT, Wisconsin
ELIZABETH FURSE, Oregon
NYDIA M. VELAZQUEZ, New York
ALBERT R. WYNN, Maiyland
CLEO FIELDS, Louisiana
MELVIN WATT, North Carolina

MARGE ROUKEMA, New Jersey
DOUG BEREUTER, Nebraska
THOMAS J. RIDGE, Pennsylvania
RICHARD H. BAKER, Louisiana
CRAIG THOMAS, Wyoming
JOE KNOLLENBERG, Michigan
RICK LAZIO, New York
ROD GRAMS, Minnesota
SPENCER BACHUS, Alabama
MICHAEL CASTLE, Delaware
DEBORAH PRYCE, Ohio
TOBY ROTH, Wisconsin

BERNARD SANDERS, Vermont

(II)

CONTENTS

Page
Hearing held on:

November 19, 1993 1

Appendix:

November 19, 1993 33

WITNESSES

Friday, November 19, 1993

Brendsel, Leland C, Chairman and Chief Executive Officer, Federal Home

Loan Mortgage Corporation, McLean, VA 8

Johnson, James A., Chairman and Chief Executive Officer, Federal National

Mortgage Association, Washington, DC 4

APPENDIX

Prepared statements:

Gonzalez, Hon. Henry B 34

Maloney, Hon. Carolyn B 39

Roukema, Hon. Marge 36

Brendsel, Leland C 40

Johnson, James A 60

Additional Material Submitted for the Record

Gonzalez, Hon. Henry B.:

Article in the San Antonio Business Journal entitled "Laredo National

investors seeking Mexican charter," dated November 5, 1993 86

Article in the San Antonio Mexico Business entitled "Window of Oppor-
tunity, Mexico seeks Fannie Mae to help develop its young housing
maricet," dated November 5, 1993 87

Article in The Wall Street Journal entitled "Kitchen-Sink Bonds May

Offer Everything but Stability," dated November 18, 1993 88

Brendsel, Leland C:

Response to colloquy with Congressman Watt regarding percentage if
you factored out refinancing 58

Response to colloquy with Congressman Watt providing statistics regard-
ing diversity of work force 59

Johnson, James A.:

Response to colloquy with Congressman Watt regarding percentage if
you factored out refinancing 81

Response to colloquy with Congressman Watt providing statistics regard-
ing diversity of work force 82

Description submitted entitled 'Tannic Mae International Activities" 83

(III)

AFFORDABLE HOUSmG GOALS OF
GOVERNMENT SPONSORED ENTERPRISES

FRTOAY, NOVEMBER 19, 1993

House of Representatives,
Subcommittee on Housing
AND Community Development,
Committee on Banking, Finance and Urban Affairs,

Washington, DC.

The subcommittee met, pursuant to notice, at 10 a.m., in room
2128, Rayburn House Office Building, Hon. Henry B. Gonzalez
[chairman of the subcommittee] presiding.

Present: Chairman Gonzalez, Representatives Vento, Klein, Roy-
bal-Allard, Watt, and Roukema.

Chairman Gonzalez. The subcommittee and committee will
please come to order.

This hearing is actually conducted on the basis of a full commit-
tee with subcommittee participation, although the purpose of this
one is to emphasize the housing and affordable housing issue. It
nevertheless will not be restricted to that. Congressman J.J. Pickle
of Texas, who is a chairman of the Subcommittee on Ways and
Means that has jurisdiction on his side on activities of the Govern-
ment Sponsored Enterprises, will be here.

This morning is going to be a complicated one legislatively, in the
full House. My understanding is that as soon as the House con-
venes, there will be an immediate vote on the Journal. Then I will
present the conference report on the RTC Funding bill, which is a
formality, and therefore we are going to be interrupted. But in the
meanwhile we can get through some of these preliminaries.

I believe there has been some confusion in the past and inter-
nally on the committee. There had been a question of jurisdiction
of this issue between two subcommittees, but it was decided that
the Subcommittee on Housing and Community Development would
have the preferential jurisdiction. And so it has been exercised that
way.

The last attempt was made in 1981 to split off the jurisdiction
of the issue, together with the jurisdiction over the S&L and the
Federal Home Loan Bank Board, to the Subcommittee on Financial
Institutions. Traditionally, the Subcommittee on Housing and Com-
munity Development, which until the change of its description in
the 1974 Legislative Reform Act, it had simply been the Sub-
comrnittee on Housing, had jurisdiction. The Subcommittee on
Housing was a preferred subcommittee, and it was the only sub-
committee that had its own budget and handled as well, independ-

(1)

ently, the minority's budget on an equal basis. So there is a lot of
history here so far as jurisdictional matters.

On this occasion, the subcommittee, and this expresses the con-
cern of several very active and prominent members of the sub-
committee who may or may not be able to attend this morning's
hearing or will be coming in and out, is particularly concerned
about the compliance with the recently published interim afford-
able housing goals for both the corporations we are going to hear
from this morning.

We do expect that both corporations will be able to move more
than fully in meeting the goals, or at least interim goals and the
long-term housing goals set forth in the statute last year.

Congress established the affordable housing goals because of the
previous lack of concrete information on both Freddie Mac and
Fannie Mae's activity in the area of housing for low-income per-
sons. While HUD has had regulations since the 1970's requiring
that 30 percent of Fannie Mae's mortgage purchases be for low-
rent, moderate-income persons, it however has not been clear that
low-income persons have benefited in any substantial way from
previous HUD requirements.

The subcommittee thus created specific low-income housing goals
for these institutions. These goals are contained in Title XIII of the
Housing and Community Development Act of 1992, which is also
referred to as the Federal Housing Enterprises Financial Safety
and Soundness Act of 1992.

This statute establishes three primary low-income housing goals:
30 percent of the GSE's conventional mortgage purchases must be
to finance housing for low- and moderate-income families; 30 per-
cent of the GSE's conventional mortgage purchases must be to fi-
nance housing located in central cities; and the GSEs must pur-
chase conventional mortgages for the specific affordable housing
goals of $1.5 billion for Freddie Mac's purchases and $2 billion for
Fannie Mae's purchases.

The subcommittee is also very concerned about the capital ade-
quacy of each of these GSEs. This was expressed in the proviso in
last year's law setting up the Office of Federal Housing Enterprise
Oversight. We have met and in fact had a hearing, at which time
we heard from the appointed head of this newly established agency
that is actually set up in HUD, independent inasmuch as the stat-
ute makes it report to the Congress.

After we had passed our version in the House, we became hung
up on this question of capital adequacy, particularly since both
these GSEs have a line of credit with the U.S. Treasury of up to
$2.25 billion. And in connection therewith, I want to place in the
record at this point two articles. One is from the San Antonio Busi-
ness Journal entitled "Laredo National investors seeking Mexican
charter," and the other one is from the San Antonio Mexico Busi-
ness entitled, "Window of Opportunity, Mexico seeks Fannie Mae to
help develop its young housing market."

These articles explain how the Laredo Bank intends to set up a
bank across the border and especially after the other night's vote
on NAFTA, which has a special reference in these articles, which
quote a Mexican Government official that he is very much in com-
munication with Fannie Mae, and that his hope is to make Fannie

Mae a partner. The article states, "Whatever role ultimately devel-
ops, Fannie Mae's experience in mortgage lending far outpaces
Mexico's." The article notes that Fannie Mae has more than a $2
billion unused line of credit from the Federal Government.

Now, apparently, one Fannie Mae official is quoted here as say-
ing they want to cooperate, but they have to look at their charter.

[The articles referred to can be found in the appendix.]

We came perilously close to having the Reagan administration
privatize the secondary mortgage institutions. In fact, the chair-
man of the full committee at that time was quite determined. This
coincided with my becoming chairman of the subcommittee, and I
withstood that.

Now, time will tell whether this was wise on my part or not, de-
pending on what happens here. Because up to now, the institutions
have had the best of two worlds.

One, the advantages of being considered private. On the other,
having that edge over the private competition that having what ap-
pears to be a substantial modicum of difference in its ability to
draw on the government and the Treasury.

So I wanted to express my concern with that, and want these two
articles placed in the record, and we are going to distribute copies
to the members.

Now, we don't want to digress from the main purpose of the
hearing this morning, but it is one that we consider inextricably
linked with our main purpose.

Now, the subcommittee had created and then the full committee,
these capital standards to protect against any unnecessary draw
from the Federal Government, and to ensure that these institutions
not take unnecessary risks without adequate safety and soundness
criteria.

At this point, I do want to place in the record another article,
very disturbing. It appeared yesterday in The Wall Street Journal,
entitled, "Kitchen-Sink Bonds May Offer Everything but Stability."
Americans have always had a good knack of naming things, like
junk bonds and so forth. Now it is kitchen-sink bonds.

[The article referred to can be found in the appendix.]

And these are what they also call CMOs. "There are," according
to this article, "more than $800 billion of CMOs on the market. The
problem is, a few CMOs are just too weird for investors to digest."

However, Mr. May of Freddie Mac is quoted as saying, "To the
extent that this creates demand for more esoteric CMOs, the deals
will improve the market overall."

Now, this is a matter of concern to myself, and one reason that
I am sure Congressman Pickle wanted to be present was to inquire
along these lines.

Now, we have had the bells, and I believe the second bells have
been ringing, which means we must recess so we can record our
vote. Since this is a vote on the Journal, it is a 15-minute vote, and
there must be about 6 or 7 minutes left, and then immediately
thereafter, as soon as the vote is announced by the Speaker, I will
be recognized to present the conference report that we agreed to
last night. So we will stand recessed for about some 10 to 15 min-
utes.

I apologize to the witnesses for this interruption, but it is one we
couldn't anticipate.

[Recess.]

Chairman Gonzalez. The subcommittee will come to order.

I apologize for the interruption. Things happen that you don't
predict in this game.

Without any further ado, we will recognize Mr. Johnson. I want
to thank you and Mr. Brendsel for responding to our invitation,
particularly since it was rather quick notice.

Your statement as given to us in writing will be in the record ex-
actly that way. And you may proceed as you deem best.

STATEMENT OF JAMES A. JOHNSON, CHAIRMAN AND CHIEF
EXECUTIVE OFFICER, FEDERAL NATIONAL MORTGAGE AS-
SOCIATION, WASHINGTON, DC

Mr. Johnson. Thank you very much, Mr. Chairman.

Let me make then a reasonably short opening statement, if that
would be appropriate for you. And also at the end of the opening
statement, I would like to respond for just a moment to the article
you mentioned about activities in Mexico. So I will turn to that as
soon as I have finished some other remarks.

Let me say first, thank you again for having this hearing and
giving me the opportunity to appear before you. We at Fannie Mae
deeply appreciate the committee's thoughtful leadership on housing
and housing finance issues in America, and your own lifelong dedi-
cation to providing decent, safe, and affordable housing for every
American family.

The last time we were here, Mr. Chairman, you gave us some
challenges. You raised for us and asked us to consider, and asked
us to rededicate our efforts to dealing with discrimination in the
mortgage finance system, and to focusing on the lack of consumer
information to deal with the complexities in the mortgage finance
system, and also called attention again to the problem that high
closing costs and high downpayment requirements make it impos-
sible for many people who have steady incomes and good credit his-
tories to obtain mortgage finance.

Fannie Mae has been extremely active over the last 2 years in
trying to make our programs for low- and moderate-income home
buyers more effective. And I know in the written statement there
is some detail on a variety of different things that we have done.
But I wanted to assure you that through our Community Home-
buyers Program, Fannie Mae, I work with HUD on the home eq-
uity conversion mortgage, I work with the Farmers Home Adminis-
tration, I work now in moving into rehabilitation lending dealing
with the developmentally disabled, and a variety of other pro-
grams, including the further enhancement of our Multifamily Pro-
gram. We have made enormous progress in the last 2 years.

We began with a $10 billion commitment to do new affordable
housing efforts with low- and moderate-income families, and we
have been moving along now very aggressively as we completed
that goal in September to expand our program, expand our out-
reach, and continue to work on our products to make them more
and more effective.

One of the things that we have continued to do throughout this
effort is to make elimination of discrimination in the mortgage fi-
nance system the highest priority for Fannie Mae. We have had
seminars all over the country. We have published a new guide. We
have reinforced our policies and stated them many, many times in
the clearest possible way, putting our company very directly and
very firmly on the side of eliminating discrimination throughout
the mortgage finance system.

The hearing letter tnat you sent just a couple of days ago, Mr.
Chairman, asks us particularly to respond to the goals the commit-
tee has established for Fannie Mae, for this year and next year and
beyond. As you recall, that was quite a dynamic process in the leg-
islation. The committee said there would be interim goals for 1993
and 1994, required the Secretary of HUD to work on those goals,
to also work with us on establishing regulations affecting the spe-
cial affordable housing goals, and then as we go toward 1995, in
many respects there will be new additions and new formulas which
will come into play since the central cities goal will be adjusted to
affect also rural areas and other areas of need, the special afford-
able housing goal will go to a certain percent of business, so there
will be a number of changes as we go along.

I want to give you a preliminary report now. Even though we
have just gotten the final regulations in October of this year, I
want to give you a preliminary report on what we will do in 1993
when the year is over.

On our low- and moderate-income goal, which we are expected by
virtue of HUD regulations to do 30 percent this year, we expect
that approximately 34 percent of our business will meet that goal.
We have been working very hard, building on the foundation that
we put in place, and we expect that we will fund this year approxi-
mately 1 million families who meet the definition for low- and mod-
erate-income families.

This, incidentally, as compared with 1992, will be an increase of
220,000 low- and moderate-income families from 1992 to 1993. In
the central cities area, through HUD regulations, our goal for 1993
is 28 percent. We believe that we are going to be very close to
meeting that goal. There are a variety of reasons why I can't tell
you for sure whether we will or won't, that I will go into in just
a minute.

But once again, to give you some notion of the scale of what we
are doing, in 1993, we anticipate that we will finance homes for
840,000 families living in the central city jurisdictions of the 544
central cities in the 0MB list. That is up from 1992 to 1993 for
central cities, that is up 180,000 families from year to year.

We also expect — once again, this is up in the air because of the
nature of the regulations and some further redefinition and discus-
sion we are having with HUD — we also expect that we will meet
the special affordable housing goal for 1993-1994, and we expect
that we will be well positioned to continue to meet that goal even
after it increases substantially in 1995.

One other report I would like to give of a statistical nature has
to do with our service to minority families. One of the things that
is not in the goals of the legislation but is very important to Fannie

Mae is to make sure our continued outreach to minority families
is successful.

In 1993 we expect that of the mortgages that we do, 13 percent
of those will go to minority families. That will be 320,000 minority
famihes who will be financed in 1993, and that is up 73,000 fami-
lies since 1992.

So we are moving along with this process, and with these goals,
building on our program of opening doors to affordable housing and
also building on the instructions and requirements of the legisla-
tion of last year.

This has taught us a number of things, and I will just run
through some of them briefly, because it is quite interesting for me
and all of our people as we pursue our low-income lending, central
city lending more aggressively.

One of the things we have discovered is that there is an enor-
mous hunger for information among people who are renting today
and who would like to move into the status of being a home buyer.
We have learned a lot about working with cities and other political
subdivisions. We have a new central cities cooperation initiative
where we think working to the priorities of the cities and working
with the city governments more directly is paying handsome bene-
fits.

The data processing and the data collection process has been use-
ful for us. We now know, Mr. Chairman, as a result of the commit-
tee's work, we know an enormous amount more about what is hap-
pening in the mortgage finance system. Up until this year, we
didn't really have the detailed data that allowed us to tell you what
we were doing in various categories. And as a result, once again,
of the legislation of last year, we have sent new instructions to our
lenders, and we now have dramatically higher quality data and
better information about how to proceed and about who is serving
whom.

One of the difficulties that we have discovered in the course of
this year, one of the things that I present to the committee for your
consideration, is that any time you are dealing with percent of
business goals, there are issues that relate both to the numerator
and the denominator. And this has been a particularly difficult
year in that regard because of the level of refinances.

Almost 60 percent of our business this year has been in the refi-
nance category. And, therefore, when you look at the work that we
are doing with special programs in central cities, we find it is our
experience that there is less refinance on average in central cities
than there is in suburban areas.

So one of the things that is happening as a result of the percent
of business goals at this time is that the denominator is growing
very rapidly but we are not in a position through our special pro-
grams to grow the numerator quite as rapidly. That is one of the
things I think will happen fi-om time to time as we see the market
changing.

We anticipate there will be substantially less refinancing next
year, and therefore we may have a benefit in the other direction
next year as we look at this percent of business process.

One of the things that we are discovering from the central city
goals is that central city boundaries are drawn very differently de-

pending on where in America you are. So that central city popu-
lations, for example, in New Jersey — I just saw Congressman Klein
arrive, and this I am sure will be of interest to him — but in New
Jersey only 6 percent of the people live in central cities by virtue
of the 0MB definition. And so there are definitional questions,
where if you go to North Dakota, you will find that 52 percent of
the people live in central cities.

Now, by any reasonable measure no one would say North Dakota
is more urbanized than New Jersey. One of the things we will have
to work through here over a period of time, obviously, is how to re-
fine the counting processes and the relationship between the per-
cent of business goals and the political jurisdiction situation.

One other issue that has become increasingly clear to us is that
there has been increasing focus on the FHA over the course of last
year in that some of the areas where we have been asked to pay
special attention, there is also special attention being paid by the
FHA. That puts a higher premium on our having an appropriate
partnership with them to make sure that as they increase their
programs and we increase our programs, we work in a complemen-
tary and effective way together.

We have a number of things now that we have learned, a num-
ber of benefits that we have seen, a dramatic increase in our activ-
ity.

Let me sav in closing just one word about the new regulatory en-
vironment tnat the committee has designed as of a year ago. We
have had an opportunity on a number of occasions to meet with
Ms. Alvarez. We have read her statements very closely and listened
very closely as she has talked about her safety and soundness over-
sight. We are encouraged by her approach, we very much appre-
ciated that dialog, and we expect based on the first stages of this
that this regulatory arrangement is going to be a very instructive
one from the point of view of Fannie Mae.

Now, if I might, just for a moment in conclusion, let me respond
briefly to the article that you placed in the record earlier from the
San Antonio Mexico Business publication.

One of the things that we have highlighted with the committee
from time to time in the past is that Fannie Mae has assumed the
responsibility or at least has decided over a period of time as a
matter of policy that we should make what we have done in the
United States with the mortgage finance system, in particular with
the secondary mortgage market system of Fannie Mae and Freddie
Mac, available on an information basis to people in foreign coun-
tries who are trying to establish a history of private ownership and
an approach to home ownership finance that they believe would be
constructive for their country.

As a result, over the past few years, we have done substantial
advisory work in Poland, in Hungary, in Israel, in Turkey, a vari-
ety of other places, and we are now also doing that in Mexico. And
it is quite true, as the article says, that a number of people in the
Mexican Government have been extremely eager to visit Fannie
Mae and to look at what we have done from a financing point of
view.

But in many respects, the most important line of this article is —
I won't count which paragraph it is in, but let me just read it to

you, because it summarizes our position. And that is, Beth Marcus
of our staff says, "Fannie Mae has no plans itself to buy and sell
Mexican loans, nor is it considering a charter change." And I think
that is the essence of the response that I make to you this morning.

We, of course, would be very happy to receive whatever guidance
from you, Mr. Chairman, and the committee that you feel would be
appropriate for us in regard to making our people available to for-
eign governments or foreign private sector individuals about the
experience that we have had in the United States, but it is not our
intention to buy or sell loans in Mexico, it is not our intention to
take any risk of any kind in Mexico with our financial status, and
we have been continuing on the assumption that because of the
success we have had, that we should continue to keep our doors
open to foreign visitors as they come and to talk to them about
what we have accomplished through the Fannie Mae and Freddie
Mac mechanism.

As I say, I would be more than happy to go into that further if
you feel it would be useful. But thank you, Mr. Chairman, for hav-
ing me this morning. Thank you and the others for listening to my
remarks. I am very grateful to you.

Thank you.

[The prepared statement of Mr. Johnson can be found in the ap-
pendix.]

Chairman Gonzalez. Thank you, Mr. Johnson.

Mr. Brendsel.

STATEMENT OF LELAND C. BRENDSEL, CHAIRMAN AND CHIEF
EXECUTIVE OFFICER, FEDERAL HOME LOAN MORTGAGE
CORPORATION, McLEAN, VA

Mr. Brendsel. Thank you, Mr. Chairman and members of the
subcommittee. It is a pleasure, as always, to appear before you
today to discuss Freddie Mac, the secondary mortgage market, and
financing home ownership in this Nation.

Mr. Chairman, particularly in the course of your distinguished
career on the Banking Committee, you have been a leader in sup-
porting the extraordinary development of the secondary market
which has benefited millions of low- and moderate- and middle-in-
come Americans.

I certainly welcome the opportunity to state clearly today that
Freddie Mac is strongly committed to serving our mission, and to
meeting the housing goals that were recently established by HUD.
I will comment later on that. We are proud of all we do and we
will continue to take aggressive action to meet this Nation's hous-
ing finance needs.

Our most important next step in this regard is our reentry to the
multi-family housing market. I am pleased to announce that in De-
cember we will complete our reentry into the financing of rental
housing in this Nation by opening our cash window.

As you know, Mr. Chairman, the secondary market is an ex-
tremely successful component of the American finance system. It
has provided a reliable and stable source of funds. It has elimi-
nated the regional disparity and increased the availability of mort-
gage loans.

We purchase loans from all areas of the country, rural and
urban, small cities, suburbs, large cities, inner cities, in good times
and bad. Even in the face of a substantial contraction of the thrift
industry over the last decade there has been no credit crunch or
disruption to the availability of mortgage credit in this Nation.

The secondary market fosters an intense competition among
lenders that produces innovations at every stage of the mortgage
lending process, and as a result, consumers have a wide array of
mortgage loans available today.

Nineteen hundred and ninety-three is going to be a record year
for American homeowners and for first-time home buyers. Mort-
gage rates are near all-time lows, and the secondary market is
bringing mortgage credit to American families on better terms than
ever. The housing finance system currently is helping a massive
number of homeowners refinance and reduce their mortgage pay-
ments. And it is also helping a record number of families purchase
and own their first home.

I think once statistics become available about this year, it will
show that once again the national home ownership rate will be on
the rise.

Since our inception, Freddie Mac has been in the business of
serving low- and moderate-income borrowers. This year, we will
probably purchase around $50 billion in mortgage loans that have
been made to low- and moderate-income Americans.

In fact, about one in four of the millions of borrowers we have
served since 1970 has had an income at or below the median. But,
certainly, I can only emphasize that more needs to be done. Many
people are still not being served by the housing finance system. A
disturbing amount of discrimination is being reported. And our
country is challenged by social and economic forces that have a
great impact on the housing market and on the quality of life in
American communities and cities.

Employment and income patterns are shifting. There is an in-
creasing number of self-employed and part-time workers, and
America's population is becoming more diverse.

The 1980's welcomed the largest number of immigrants since the
beginning of this century. These forces, these trends, challenge us
to continually improve so that we can help finance housing for all
deserving Americans.

We are committed to meeting the housing goals. In that regard,
let me comment on current performance in 1993.

We are in the early stages, as Mr. Johnson commented, of collect-
ing data and evaluating our performance this year. We are pleased
with our progress toward meeting the goal that 28 percent of our
purchases of loans be for low- and moderate-income Americans.
And it appears that we have a particular challenge to meet the
central cities goal.

To achieve the housing goals this year and next and the years
after, we will build on what works in the current system, and we
will work to make it even better. The vast majority of our afford-
able housing purchases will come through our regular programs,
where we already reach a large number. And we will keep increas-
ing the accessibility to those programs by evaluating policies and
expanding our outreach to individuals and to lenders.

In that regard, we are working with a number of community
lenders, community organizations, and people active in low-income
housing and inner cities. We will capitalize on the strengths and
success of the secondary market. It is a success possible because of
high volume and sound underwriting principles. By aggressively
pursuing this strategy, we will meet the housing goals and achieve
our corporate mission.

As I stated earlier, completing our reentry to the multifamily
market is the single most important step we will next take.

Three years ago, Mr. Chairman, I came to you and explained the
difficulties we were having with our Multifamily Program, with cu-
mulative losses of almost half a billion dollars. We concluded then
the prudent course at that time, at the end of 1990, was to suspend
our operations in the multi-family area imtil we had made the
changes that would ensure a successful program.

At that time I set out three prerequisites for reentry to the mar-
ket. One, to stabilize the portfolio of multifamily loans that we
held, which amounted to roughly $10 billion. Second, to establish
new programs and policies that recognized the unique nature of
multifamily lending. And third, to hire an expert and knowledge-
able staff with experience in the multifamily lending in inner cities.

We have met these conditions. I am pleased with the progress we
have made, and I am pleased to announce to you and members of
the subcommittee that Freddie Mac is back in the multifamily busi-
ness.

We will work hard during the transition period to expand our
knowledge of the underserved, of their needs, the needs of inner
cities, and the way that the secondary market can meet those
needs. We expect the results of our efforts will assist the regulator
at HUD for setting appropriate goals after 1994 and measuring our
performance against those goals. We certainly look forward to shar-
ing the results of our research and what we learn with you and
with the Department of Housing and Urban Development.

Finally, Mr. Chairman, let me conclude on a personal note. You
have been a member of the Banking Committee for many years
and you have taken a leadership role in mortgage finance and the
housing system, including the creation of Freddie Mac back in
1970, and the many dramatic changes that have taken place since
then.

I want to take this opportunity to thank you personally for your
involvement in these issues, and especially for your support of
Freddie Mac. And we look forward to working with you in the
years to come.

Thank you.

[The prepared statement of Mr. Brendsel can be found in the ap-
pendix.]

Chairman Gonzalez. Thank you very much, Mr. Brendsel. And,
Mr. Johnson, you as well. I am very grateful for the very generous
comments and also the honors.

I wanted to explain to you, Mr. Johnson, about your invitation
of October 30. Even though it looked promising at first, there to-
ward the end of the week, as far as the House scheduling and our
notification of what would be the House schedule, the House was
going through the same rather disorderly process that we now

confront today, and will be confronting over this weekend. We were
meeting Saturday, Sunday, and Monday. So I found myself still
trying to get away on Friday, October 29. And I couldn't, so I then
did the next best thing and left on the earliest flight possible out
of Washington on Saturday morning, that ordinarily would have
gotten me in San Antonio at 10:30.

And this is the first chance I have had to explain this to you, be-
cause I know that you had made arrangements right in my own
hometown, and actually in the middle of my district. Anyway, as
luck would have it, as we got to Dallas, we had mechanical prob-
lems reported by the connecting flight, and as a result I didn't get
to San Antonio until 3:00 p.m. I was supposed to have gotten there
at 10:30.

But it certainly was an honor that I deeply appreciate, whether
I was there to receive it or not. And I am aware, and grateful, of
the expressions that you all have made.

Yes, it is true, I have been on this subcommittee as long as I
have been on this committee, and that is from the beginning, 32
years ago. And I have watched, and I remember vividly the course
of events, and the entirely different world and worlds that have in-
tervened in between.

It so happens that these issues that I brought up in anticipation
of the meeting are very, very troubling to me, because I think they
go to the root of the dangers that are lurking there for our country
as far as financial institutions are concerned, and the economic and
financial freedom of our country.

I have been doing my best to try to get attention on some of
these issues. Some we have had some minimum success, in others,
total failure, in what I have considered the most important of all,
and that is that our currency, our notes, which are really our stock
in our government, has devalued. The currency has devalued on a
sustained basis, which is what makes it very dangerous, in my
opinion.

The reason I am saying that is because it is hard to relate that
problem with what will be happening here in this area that you
represent as well as ours. In the last 15 years, the dollar has lost
two-thirds of its value as compared to the yen or the deutschemark.
And it continues; that is, its loss of value has been on a sustained
basis, and all history shows that no country can long withstand
that without suffering.

Now, the thing that I feel is at risk and the reason that I have
tried — and as I say, I must confess my failure — is that we are the
only country that has ever had the privilege of paying its debts in
its own currency. This led to General de Gaulle calling it the ex-
treme American arrogance. With the emergence of a more stable
currency, both in Germany as well as in the European community,
in the European monetary system as well as its unit, the European
currency unit, which now has about $1.30 value, more and more
transactions are being conducted in that unit, and less and less in
dollar transactions. In the meanwhile contemporaneous with this
decline, which goes back really in its steepest form to the middle
1980's, it coincides with the period of time that our country became
a debtor nation for the first time since 1914, and that was when

the Department of Commerce announced that fact on September
16, 1986.

Now, we have since then developed and have produced a tremen-
dous overhang of debt, both generally, among us, the people, the
corporate world, and the government. If the dollar is replaced, and
I believe that there has been a clear and present danger that that
is susceptible of happening, then it means that all of that debt
would have to be paid in somebody else's currency.

I have had these discussions with the Chairman of the Fed, and
with two members of the international banking community who
seem to think that that wouldn't be possible in the immediate fu-
ture unless there is instability in the United States, whatever they
mean by that. When I askea them why, if the necessary nations,
which would be the principal European countries and Japan, pulled
their reserves, and then nationalized the unit, why, to all intents
and purposes the dollar has not been replaced. Then for the first
time we would have to be paying all of this horrendous debt in
somebody else's currency. And in my opinion, that is the end of
American economic and financial freedom and independence.

I hope I am dead wrong, but I have been concerned, and I am
expressing that concern now.

Now, with reference to the articles that I put in the record, there
are two articles I placed, one was entitled "Laredo National inves-
tors seeking Mexican charter," and the other was "Window of Op-
portunity, Mexico seeks Fannie Mae to help develop its young
housing market." It is more than experience and advice, that ap-
parently they are seeking.

As a matter of fact, it is something that we worked with on this
subcommittee, when we had the first opportunity to pinpoint the
fact that the so-called free trade agreement contained just about 10
percent trade, and the rest something else, and it had a chapter
that was not mentioned until we called a hearing on September 9,
on chapter 14, the banking and financial section of so-called
NAFTA.

That plus other provisions in another chapter on securities,
which, of course, belongs to another committee's jurisdiction, but
they did not exercise it. As far as I know, we were the first and
only committee to really have hearings on those sections that have
pertinence to its jurisdiction. We had three hearings that were not
reported, that were not covered. We were blacked out, and that is
not for me to judge one way or the other, other than the fact that
the agreement was put together in absolute secrecy. Try as we will,
we have never been able to get any kind of minutes or transcript
or record other than the pledge which was finally complied with
about 2 weeks ago from the Assistant Secretary of the Treasury
that was involved in that chapter 14.

And in answer to my question, the Assistant Secretary said, yes,
that he had been the leader in that, but that they had had the in-
volvement of many, many others. So when I asked him to give me
the list of those other individuals, he finally did, 2 weeks ago, and
they were all the principal megabank lawyers and officials. Now,
you can take it from there.

In this article entitled "Window of Opportunity," obviously this
official is doing more than seeking advice. Mr. Karg says, "While

no decisions have been finalized, several options are under discus-
sion. One is an investment to be made by Fannie Mae in the entity
the government would charter to operate the secondary market."
Meanwhile, in another section the Mexican Government is seeking
permission to set up a secondary market arrangement, patterned
on the American experience.

But they are looking for more than just advice. And we brought
that up during our hearings, because the potential for this is great-
er than would meet the eye. Here, the ink on the NAFTA, as far
as the House part, still hasn't dried, and we have already got indi-
cations of the fallout that we had observed during our hearings.
And it is in this area.

Now, I want to point out, just as a matter of immediate observa-
tion, that section 304 of the National Housing Act requires Fannie
Mae in its operations to confine its activities to mortgages which
meet minimum creditworthiness standards. The committee during
our hearings, three hearings, heard numerous witnesses, and we
adduced substantial documentation, showing that the dangers of
investing and doing business in Mexico were very great.

I would say that this is true. If Fannie Mae or Freddie Mac, for
that matter, was to invest in or to provide liquidity to the Mexican
mortgage market, it would be inconsistent with its charter of pur-
pose and authority, and it would be necessary to seek that author-
ity from the Congress. I believe it would be entering a very risky
field.

And with that, I am going to cut off with this other article on
the kitchen-sink bonds. It is very disturbing, because, Mr. Johnson,
you said that 60 percent in the immediate past involved refinanc-
ing, because of low interest rates.

Now, I don't know what percentage Freddie Mac would report, if
you have

Mr. Brendsel. It would be about the same.

Chairman GrONZALEZ. About the same.

My question is, given the instability and the lack of any kind of
a control on interest rates, what would happen if you had an in-
crease in interest rates in the near future? What impact would that
have on all of this refinancing restructuring?

Mr. Johnson. The impact on the refinancing would be to largely
bring it to a halt. We have had two very big refinance years in
1992, 1993. There were very big refinance years in 1986 and 1987.
But if you look at those intervening years of 1988, 1989, 1990,
1991, Leland might have an exact number, I don't have an exact
number in mind, but my guess is that the refinance number would
be down to maybe a quarter or even 20 percent of the rate that it
was this past year.

So what happens is that the refinance comes when the interest
rates go down, when the interest rates level out, and people then
more or less have gotten down to the new low-interest rate environ-
ment, there is no further incentive to refinance. So it goes very
quiet for a period of time.

And then if rates go down again substantially for people who
during the intervening period took higher interest rate mortgages,
they refinance again, and it kind of goes in a cycle. But our expec-
tation for next year, for example, is that the percentage of the

74-111 - 94 - 2

loans that we deal with that will be refinances will probably be
down in the 25 percent range, roughly, from a high of 60 percent
this year.

This is the highest year we have ever had, Mr. Chairman.

Chairman GtONZALEZ. Mr. Brendsel, do you have any comment?

Mr. Brendsel. That reflects our own thinking. We expect next
year, by the way, the percent of loans we purchase for refinancing
will probably be in the neighborhood of 30 percent or so. What that
really reflects is some small differences between Mr. Johnson and
myself about where we think interest rates will be next year.

If interest rates stay low, more homeowners will have an oppor-
tunity to take advantage of that by refinancing their mortgages
and reducing their mortgage payments.

Mr. Johnson. Might I just add one thing?

I had some statistics done recently as to the effect on the total
mortgage cost of American homeowners as a result of this refinanc-
ing and interest rate adjustment period that we have been in in the
last 2 years. And our chief economist at least, Mr. Chairman — I
don't know whether this is exactly accurate or whether other econo-
mists would agree precisely — estimates there has been about a $30
billion reduction in the past 2 years of the amount of money that
individual home buyers are paying on their mortgages as compared
with the beginning of this 2-year period.

So that there is an economic stimulative effect of putting more
money in people's pockets, so that they have that money either for
savings or for other uses as a result of this change in the interest
rate environment on mortgages.

I just point that out to you as a number that at least can help
us partially size the situation.

Chairman GONZALEZ. If you were to have a return, gradual or
not, to a higher interest environment, what is the exposure of the
institutions as a result of the refinancing, if any?

Mr. Johnson. There really isn't any exposure that flows to us
from that, because we fund our portfolio in such a way that when
we do fund, we put a liability on our books to match the mortgage
assets that we have, that structure is put in place for the duration
of the mortgage in question. So if the mortgage is a long mortgage,
it lasts for the duration of a long mortgage.

We now have a substantial amount of callable debt, so if it is a
short mortgage, there is a rapid payoff, we can also call the debt.
So we continue to have a well-matched book of assets and liabilities
in part because of this innovation over the last 3 or 4 years of call-
able debt.

So that, you know, from an asset liability or interest rate expo-
sure point of view, there is nothing about the turning down of the
volume of refinance activity that would affect our financial well-
being.

Chairman Gonzalez. The article in The Wall Street Journal yes-
terday was bothersome to me because, as described in the article,
'The bonds are issued by trusts into which Wall Street dumps bits
and pieces of capricious, hard-to-value mortgage-backed securities.
If the market for a certain mercurial mortgage-backed bond should
dry up, just pop it into a trust and get it off the investor's books."

Now, apparently the problem with these bonds, and apparently
some Federal regulators are worried about it, is that they are so
complex that their actual security and profitability are difficult to
analyze.

Now, the article also intimates, if it doesn't actually — I believe it
does state, Mr. Brendsel, that Freddie Mac is considering issuing
kitchen-sink bonds, even though a vice president with Freddie Mac
is quoted as expressing serious concerns about these bonds.

Now, what I am trying to figure out is, if it is done, what accom-
modation could be found with respect to the application of the criti-
cal and amenable capital requirements. As you state in your testi-
mony, Mr. Brendsel to meet critical capital requirements, Freddie
Mac must hold 1.5 percent capital for on balance sheet assets, and
0.25 percent capital for off balance sheet assets, and also to meet
minimum capital requirements, you must hold 2.5 percent capital
for the on balance sheet assets and forty-five one-hundreths of 1
percent capital for the off balance sheet assets.

So what would this investment and this type of bond be? Off bal-
ance sheet?

Mr. Brendsel. First of all, we do not invest in those types of se-
curities referred to in the article.

Second, as I think the article correctly pointed out, the particular
type they were talking about, we do not issue those securities ei-
ther.

Nevertheless, the capital requirements — the very innovative cap-
ital requirements that are included in this legislation that this sub-
committee labored long over — both the minimum and critical cap-
ital requirements as well as, more importantly, the risk-based cap-
ital requirements, would take into consideration what is both on
and off our balance sheet, which might be these, if we invest in
them, they would be taken into consideration by virtue of applying
that capital standard. All of those risk characteristics are taken
into account in the risk-based capital standards embodied in the
legislation.

But let me emphasize again, we don't invest in those types of se-
curities, and neither do we issue them.

Chairman GtONZALEZ. Your intention is not to go into them?

Mr. Brendsel. The answer is yes, our intention is not to issue
those kinds of securities.

Chairman GIonzalez. Well, I am glad to hear that, because we
seem to be entering a decade of gambling in the commercial bank-
ing era, more than banking. And it has been a matter of extreme
concern.

The principal 20 banks of the United States, commercial banks,
have tremendous off balance sheet disjointive activities. The off
balance sheet covers everything, obviously, from some not too risky
to the extreme risky derivatives, and there is a zillion of those,
international currency futures, and that is gambling, in my book.

But one of the banks, one of the principal banks, has had a very
high percent off balance sheet compared to its national capitaliza-
tion structure. That seems to me to be a very, very dangerous mar-
ket. Then you go down the list on the 20, and I see what is very
disturbing.

So I say that every effort should be made, even as some des-
perate situations may arise in the future, to stay away from these
rather risky or questionable, as far as value is concerned, invest-
ments.

Well, thank you very much.

Mr. Brendsel. Mr. Chairman, let me make a couple of addi-
tional comments about the article. The first one, of course, is that
in general, what has happened in the mortgage-backed securities
market over the last 10 years has been a major innovation in the
types of mortgage-backed securities that are issued, the so-called
multiclass securities, or the CMOs. That has brought tremendous
benefit, not only to investors, because it has enabled them to invest
in a sound way, that they can manage their portfolios, but also has
resulted in tremendous benefit to American home buyers by reduc-
ing mortgage rates, by bringing more investors into this market.

We certainly continue to issue multiclass securities very aggres-
sively. The particular practices that were mentioned in this article
really refer to matters of disclosure practices, the characteristics of
these securities, and then how were they sold. And in that regard,
it was referring to the so-called private label market, that is, the
securities that are not issued by Freddie Mac or Fannie Mae.

Freddie Mac and Fannie Mae have been leaders in disclosing in-
formation about the types of securities that we issue and the mort-
gages that back those securities. In fact, we go beyond SEC re-
quirements. Even though we are exempt from those particular re-
quirements, we recognize it is very important to give investors the
quality information they need to evaluate their investment.

With regard to selling practices, we, of course, don't sell directly
to investors. It is generally done through securities dealers.

In that regard, I think there has been some information to indi-
cate, and I tnink it is alluded to in the article, that in some cases
securities are sold by unscrupulous salespeople that don't provide
the right kind of information to investors. In that regard the Cjov-
ernment Securities Act, I believe, recently tightened up some re-
quirements in this area, suitability requirements and so forth,
which we absolutely think is the right way to go, because what we
want to do is ensure the integrity of this market for all involved,
and specifically for American home buyers.

Chairman Gonzalez. Very good. Well, I deeply appreciate that.
All in all, I want to compliment both of you gentlemen for the oper-
ations.

Mrs. Roukema.

Mrs. Roukema. I would be perfectly — all right, you are a gen-
tleman and a scholar. Thank you, sir. I thank my colleague from
Minnesota as well.

I would ask, Mr. Chairman, unanimous consent to include my in-
troductory statement in the record.

Chairman Gonzalez. Without objection, so ordered.

[The prepared statement of Mrs. Roukema can be found in the
appendix.]

Mrs. Roukema. I do beg the forgiveness of our two guests here,
our two panelists here, for my tardiness. It was unavoidable, but
I have got to say, particularly to Mr. Johnson, this is the second
time in a week I have had to express a regret at not being able

to be present when Fannie Mae had offered me a wonderful oppor-
tunity a week ago to speak to a group in Saddlebrook, New Jersey,
on this subject.

I want to express my appreciation for Fannie Mae's interest and
for the initiation of your work in New Jersey. It is very fine.

Not having heard your testimony, however, I have been briefed
on it. I do have a question for you, or a question or two for you.
It is a little different — the second will come back in a sense to what
the chairman has been asking, but let me ask you about your
central cities goal.

I understand that in your testimony you have made a point of
saying that the mortgage financing, the standards presently set up
under the regs as you understand them would provide more central
city financing, if I understood correctly, in North Dakota than in
New Jersey.

Whether or not that is the specific case, Mr. Johnson, could you
explain to me more the problems that you have with the definitions
or perhaps we should review with those definitions if, for example,
in a place like my district, we would qualify for no funds, or — and
statewide, a State that is as urban as ours, it seems that there
must be something very distorted in the definition if it has that
consequence. And would you have recommendations for what we
should do about it?

Mr. Johnson. Thanks very much for the question. We had a very
good session, I should sa}', earlier this week up in New Jersey, and
we are sorry your schedule didn't permit you to participate.

I should say, first of all, that from the very first time the commit-
tee considered central city goals and low- and moderate-income
goals, Fannie Mae was supportive of that concept. So this is in no
way to suggest that we should not have goals in terms of serving
important priorities of the Congress. And I don't want to have any
implication of that sort left behind.

But as we have now moved through this first year, and I said
a little bit about this in my opening remarks, we are learning a lot,
and I think HUD is learning a lot and everybody else is beginning
to focus on issues that the committee had no way of anticipating
necessarily when this legislation was passed a year ago.

Central city definitions in fact are monitored very closely by the
Office of Management and Budget. And there is a list of 544
central cities, which as a matter of fact even changes each year,
which is one of the difficulties we have at the moment, because we
have just gotten the changes for 1993, and therefore when we try
to calculate whether or not we are meeting the central city goals
for most of the year, we have had to operate on the 1992 list of
central cities rather than the 1993 list.

Mrs. ROUKEMA. Excuse me. You mean to tell me you are dealing
with a constantly moving target? Is that what you are saying?

Mr. Johnson. Yes. Very much so. Very much so. It is also the
case that as we work with these targets, we are learning a lot
about the way they affect various populations in various States. So
I made a comment earlier that I thought that 6 percent of the
mortgages made in New Jersey were eligible for central city treat-
ment or counting in the counting as it has been designed by the
0MB list, and that there were 52 percent in North Dakota.

For purposes of clarifying the record, one of the Fannie Mae peo-
ple with me this morning was kind enough to say that the actual
central cities score eligibility is 5 percent in New Jersey and 64
percent in North Dakota.

So that what we have is a situation here where — and the com-
mittee anticipated this to some extent, because the committee said
that after this interim year of 1993-1994, that it was the respon-
sibility of the Department of Housing and Urban Development to
adjust this goal to central cities and, quote, "other underserved
areas," so that we are in an interim period here where we are be-
ginning to learn something about how this is all going to work.

But one of the things that happened historically, and you may
all be more familiar with this than I am, but as a metropolitan or-
ganization moved from east to west, basically the lesson that was
learned was if the central city could have a larger jurisdiction,
there would be advantages in terms of annexation, advantages in
terms of the management of the area. In States such as New Jer-
sey, where the county and township structure was put in place
very early, before these lessons were learned, municipalities tend
to be much smaller than in areas settled later.

And so it has nothing to do with the income characteristics or ra-
cial characteristics or anything else of the people of New Jersey.
What it has to do with is the history of municipal organization, es-
sentially.

So what we find is west of the Mississippi, many, many of the
States have extremely high percentages of people who live in
central cities. I don't know for sure that this is accurate, but as we
began to look into this, one of the people at Fannie Mae mentioned
to me that the central city of Albuquerque is 200 miles from one
side to the other. As you well know, there are no central city iuris-
dictions in New Jersey that have that substantial geographical cov-
erage.

So what we are trying to do is really a combination of things;
that is, that we are trying to move forward with the full range of
our outreach programs, and we are doing more and more central
city agreements, more and more targeting of our focus. We have
now made all central cities eligible under our so-called Fannie
Neighbors Program, where we have introduced a number of our
lower downpayment mortgages and our higher approval, more
flexible mortgages into the whole of the central city rather than
just part of it by virtue of income characteristics.

So this will be changing, evolving, moving along, and I think we
certainly know that by roughly a year from now, this will be fully
taken into account under the phrase of "other underserved areas."

What we are trying to do in the interim is continue to learn as
much as we can how it works, and then as we go through 1994,
I would expect in our dialog with HUD, there would be a refine-
ment of these targeting requirements.

Mrs. RouKEMA. So you feel that the present statute gives you the
flexibility and the latitude you need to deal with it more realisti-
cally?

And, of course, if not, then that shows why this oversight hearing

is so well determined here by the chairman, because we will be
looking forward to any precise recommendations you can make, and

I would hope you could do it within the existing statute. If not —
we are here to serve you.

Mr. Johnson. I think we can do very nicely with the existing
statute.

One of the other things I have tried to make clear to the chair-
man and the committee as we have gone along here, over my 3
years of service as Fannie Mae's CEO, is that we are trying very
hard not to take any kind of mechanistic view of the committee's
instruction really that we be more active in affordable housing.

So we have a wide variety of outreach programs, for example,
that don't count at all in any of the percent of business goals that
we have. We have programs for the developmentally disabled, we
have some AIDS housing programs we are working on now, we
have a variety of other things we are doing with State housing fi-
nance agencies, with the low-income tax credit investments. We
have a very large number of things that are not countable. But it
seems to me that the general admonition of the committee has
been for us to use our resources to have a more important effect
on all aspects of the smooth functioning of the mortgage finance
system.

So that is what we are doing. And, therefore, I don't believe that
we need any statutory adjustment.

Mrs. RouKEMA. It is not going to be at the expense of your low-
and moderate-income housing projects?

Mr. Johnson. No, it is not.

Mrs. RouKEMA. I should like to make a point, and I don't know
if you want to comment further on this, that I think we all want
to be assured that the housing priorities do not conflict with the
safety and soundness requirements under the law. And I would
like to have the assurance — it is a rhetorical question, really — that
we — that you should feel the obligation to completely inform us
should you feel that at any point in time the two are in conflict,
and certainly we want — I, for one, want safety and soundness to be
the highest priority. It is a rhetorical question.

Mr. Brendsel, would you like to comment?

Mr. Brendsel. Only by saying that no borrower wants to default
on their home. The last thing that they want or that a neighbor-
hood in which that home was located wants, is to have a loan de-
fault. Obviously, that also results in a loss to investors.

We believe that financing affordable housing, helping people buy
homes, lower income minorities as well as middle income, is totally
consistent with the safety and soundness requirements.

Mrs. RouKEMA. That is true, but we all know the statistics, and
the growing number of the defaults. It is a tragedy, but we want
to work with these people, of course, but we don't want it to be at
the expense of the safety and soundness standards that we have
set up.

Thank you very much.

Chairman Gonzalez. Mr. Vento.

Mr. Vento. Thank you, Mr. Chairman.

I read both of the statements and appreciate the oral comments.
In terms of the packaging of loans and so forth, I mean, the fact
is that as you are packaging central city and other types of loans

that are part of the goal, they become packaged with loans on a
broader geographical basis, isn't that correct, Mr. Johnson?

Mr. Johnson. Yes, it is.

Mr. Vento. So the fundamental question of safety and sound-
ness, I suppose really relates to whether or not that bond gets sold
or not.

Mr. Johnson. Well, the fundamental question for safety and
soundness for Fannie Mae — certainly that is one of the dimensions.
There are two or three others we have to keep our eye on as well.
One is the default rate and the delinquency rate and the fore-
closure rate, and how much we charge off for credit losses. We
watch that very carefully, as you might expect.

A second category we have talked about so many times with the
committee is our management of interest rate risk. Because of the
size of the portfolio we have, I believe that we have the most so-
phisticated interest rate risk management operation that exists.

We also have some operations and systems risks that we have
to pay a lot of attention to. As a matter of fact, the capital require-
ments that you passed last year have a specific override in terms
of increased capital being required to make sure that operations
and systems risks are covered.

And this year, as I mentioned in my written testimony, we will
do $300 billion of total business, and as you can imagine with that,
we have hundreds of billions of dollars flowing through our com-
pany, and it is extremely important that we do all of that right and
not expose ourselves to any risk in that area as well.

Mr. Vento. The issue that I was interested in was your point in
your testimony, picking up on the refinancing issue, and a signifi-
cant amount of refinancing. Now, when you are expressing the
amount of paper sold this year, is that really much of that? When
you say 60 percent of it is refinancing, is that really recognizing 60
percent of that paper as refinancing or resold paper? How do you
treat that for the statistics that we have before us?

You gave some numbers in your testimony about serving 3 mil-
lion families.

Mr. Johnson. We have been instructed now through the regula-
tions which came out on October 13 to assemble our statistics, in-
cluding both purchase mortgages and new mortgages and refi-
nanced mortgages together in terms of the satisfaction of these
numbers.

I mean, it is interesting to note, if you ask me, will we meet our
central cities goal excluding refinancing, I would say, yes, we will.
But with the level of refinancing going on, particularly outside of
central cities, we have this numerator-denominator problem.

Mr. Vento. That is what I was referring to. So the numbers we
are looking at on page 2 of your statement, $300 billion, 3 million
families, my question really is, does that include — that does in-
clude, apparently, the refinancing paper, is that right?

Mr. Johnson. Yes, it does.

Mr. Vento. So you are extinguishing some paper. So if it is 16
percent, it would mean $180 billion of that is refinancing.

Mr. Johnson. Yes.

Mr. Vento. Mr. Brendsel, I didn't see your numbers here, but
can you just give them to us? You said yours was also about 60 per-
cent.

Mr. Brendsel. Yes. Somewhat more, but close to it. We will pur-
chase a little over $200 billion of mortgages this year, $220 billion.
And again, that is total, that includes refinancing and purchase-
money mortgages.

Mr. Vento. It is no secret to us, interest rates are down and the
economy isn't getting the type of bounce that it should be in terms
of housing construction. If you are out there buying in some mar-
kets, it is still very good because you can get low interest rates, if
you had a mortgage. But I think this sort of speaks to the prob-
lems.

And, of course, the other aspect, Mr. Chairman, which in terms
of refinancing, which Mr. Johnson points out, is that because of the
decline in housing price in a few parts of the country, some families
have been unable to take advantage of lower interest rates through
refinancing. I just would like you to elaborate a little bit on that.

I think we get a better view from the secondary market programs
of the nature of the pent-up demand in terms of the depressed or
the lack of appreciation or the depreciation in terms of housing.

Mr. Johnson.

Mr. Johnson. Sure. One of the things I mentioned we are trying
to deal with and we announced a change in our policy today is that
in some areas where housing prices have gone down — and I must
say, if you look at the last 2 or 3 years, on a national statistical
basis, there are not that many — but if you look at the areas where
they have gone down, one of the things that happens is that as the
value of the home goes down, people become ineligible for refi-
nance, and therefore they are in a strange situation, often, because
going down in the home value normally also means you have a
softening of the job market and you have other economic problems
that are under way.

Then you have a situation that because of the loss of equity in
a home, they must maintain their payments at the higher interest
rate, because they are not eligible for refinance. So that one of the
things that we are announcing today is that we are going to try to
deal at least with part of that problem by allowing people to refi-
nance up to 95 percent of the value of their home, and previous to
today, we allowed only 90 percent.

Now, this will have an effect certainly in California, which we
are very sensitive about because it is a very difficult economic situ-
ation in California. It should have some effect probably in Massa-
chusetts, where there has been some downward pressure, probably
some in New York, New Jersey. So it is very hard to calculate how
many families will be affected.

But one of the things we are trying to do and we believe it is
prudent in terms of our risk exposure, is to increase the availabil-
ity of the refinancing option to people who had previously not been
able to refinance.

Chairman Gonzalez. If you would yield to me on that, because
that is the area of the so-called underwater mortgages, and I just
ask to intervene because Congressman Kennedy is very much in-
volved in addressing this problem, which seems to be acute in the

Boston area, and has asked that we hold hearings in Boston in De-
cember, which we intend to honor his request. But, apparently, you
have described it very well, and these areas are the areas mostly
adversely affected, by finding themselves in this very difficult situ-
ation.

Mr. Vento. No, I agree. And, of course, 95 percent is an improve-
ment, but clearly the real problem is, if you have got a high inter-
est rate risk of 10 or 11 percent on a mortgage that may only —
or a price now that may only be 75 percent in a 95 percent mort-
gage, it is a real dilemma. Do you actually improve the perform-
ance of the mortgage by lowering the interest rates and borrowing
the money over and above the amount, or do you not? It is a real
dilemma.

Of course, ironically, many people don't realize the value changes
in terms of property until they come in to refinance, which is when
the bad news comes.

But, you know, the reason, Mr. Chairman, and our witnesses,
this really is, in essence, the issue where troubled markets exist
often in cities and sometimes in other communities in trying to get
the secondary market involved, which is really the response in
terms of establishing credit.

For instance, I was surprised in my community to realize that
there were some condominiums in the downtown area that were
owner-occupied, the buildings were largely owner-occupied, and
they still couldn't refinance them. And the banks, of course, were
pointing to the secondary market as not being available. And it
may be an education problem, it may be a lack of information.

I did note in your testimony, Mr. Brendsel, and I know that Mr.
Johnson probably has the same thing, that you are talking about
improving underwriting guidelines on page 10, the underwriters'
barriers outreach group you put together. Do you want to explain
to me how that could work. I understand there may be legitimate
concerns about condominiums. That especially in central cities that
were overbuilt on some of these, they are empty, and even if they
are owner-occupied, represent problems, so I don't take it in any
way as an assumption that you are willing to fund these or unwill-
ing to fund them.

But I did want to point this out, because, Mr. Chairman, if we
are ever going to get housing markets in cities to go — there is a
whole phenomenon that takes, you don't have liquidity to operate,
it encourages absentee landlords, it encourages a downward spiral
where you can't get your equity out, and it creates havoc in these
troubled communities. I wouldn't say they are all central cities, ei-
ther.

Mr. Brendsel.

Mr. Brendsel. As you point out. Congressman Vento, the impor-
tance of having the right underwriting guidelines is critical, not
only for Freddie Mac or Fannie Mae but also for the communities
and the borrowers that are being served by lenders that sell mort-
gages to us. So we take having the right underwriting guidelines
very seriously, and ensuring that lenders use them in the appro-
priate way.

One of our major goals, a continuing goal is to ensure that our
underwriting guidelines create no barrier that keeps a deserving
homeowner from taking on a mortgage loan to purchase a home.

In fact, after hearing what were very disturbing comments to me
made by a few lenders and other organizations back in the late
1980's, in fact, by a few Members of Congress, members of this sub-
committee, about how our underwriting guidelines might create un-
necessary barriers, we commissioned a special study, a very exten-
sive study in 1990, by retaining a consulting firm, to assist us in
that regard. We subsequently undertook a project to completely re-
view our underwriting guidelines, and in doing that, we brought in
community lenders and community organizations, and really went
through the guidelines with a fine-tooth comb. We surveyed many,
many lenders across the country, held focus groups, to examine
how the guidelines could be improved and where there were prob-
lems.

The result of all that, and we submitted — I think we provided a
copy of that report and study to members of this subcommittee in
1991, we made some significant changes to our underwriting guide-
lines, improvements, I would say, both in terms of clarifying how
they were to be applied, understanding for lenders, as well as in
some cases changing those requirements.

Just to give you one example, probably appropriate to inner
cities, so-called requirements for mixed-use neighborhoods. We will
buy a mortgaged loan on a home where you have got a store sitting
next door. The answer is absolutely yes. We wanted to ensure that
that was understood by lenders and that was clear in our under-
writing requirements.

And it was those kinds of changes and clarifications that we un-
dertook. And this is now an ongoing process. Every year we hold
something called an Underwriting Barriers Outreach Group where
we pull together lenders, community organizations, and we exam-
ine what has changed since the last time we did this, what did we
learn about how the process works, what can our lenders tell us.

And we are now going through the next round, and I expect
there will be some additional clarifications, and changes in that re-
gard. The objective is to always keep the guidelines up to date and
appropriate to the Nation and its communities.

Mr. VE^^^O. I couldn't help but think, I know Mr. Johnson prob-
ably wants a chance to comment, but as Mr. Brendsel was speak-
ing, as so often in the past when there was no national market, we
didn't have national standards. You had a niche in a financial in-
stitution making a decision, understanding the market, converting
this to national standards and we lose some of the ability to deal
with the type of needs of a troubled market specifically.

Mr. Johnson.

Mr. Brendsel. Excuse me, I think that is one of the misunder-
standings about the underwriting guidelines, both of Freddie Mac
and, I will represent, of Mr. Johnson's guidelines at Fannie Mae.

In fact, what you have is really the best of both worlds; some
general standards, standardization about the terms, for example,
about documents, about general approaches. But then within that,
by working with our lenders, training them, providing additional
guidance to them, they can tailor those general guidelines to their

local communities and to their local needs. And it gives them the
flexibility.

Now, that is — I said it was the best of both worlds — that is much
better than the old system. In years past, before the secondary
market, you had each lender developing their own guidelines.
Sometimes they would serve the needs of those communities but
many times they would not, and as a result you had significant
pockets of underserved borrowers within those communities, and at
the same time you weren't able to get the efficiencies in the lending
process that result in lower mortgage rates.

Mr. Johnson. I just have a very brief comment. One, we have
changed our underwriting standards 30 times in the last 4V2 years
to try to become more responsive and more flexible and try to be
more attentive to the needs of particular groups.

I guess I disagree a little bit with my colleague here, Mr.
Brendsel, on the second point, and that is that I continue to view
the appropriate introduction of flexibility into the national mort-
gage finance system as a challenge for all of us. I mean, we are ex-
tremely focused now on being attentive to the problems you are
talking about, but we work through 3,000 lenders, all of whom are
interpreting our standards. They are working in turn with millions
of people as individual borrowers, and, you know, thousands of peo-
ple in the context of multifamily projects. So there is a lot of ten-
sion going on up and down the system.

And as you recall, one of the things that the Boston Fed study
said last year was that many loan officers were not inclined to ex-
ercise the flexibility that was given to them by the secondary mar-
ket. And so while what Leland says is absolutely right in terms of
filling gaps and also setting a lot of standards, I think we, and I
guess everybody else in the system, still have a flexibility, adapt-
ability challenge which throughout our whole organizations I think
will be with us probably forever, but it is something we have got
to keep our attention on.

Mr. Vento. I know Mr. Watt has been waiting, Mr. Chairman,
but I did want to comment, I did note your concerns about meeting
the goals as set forth by the Secretary in terms of the urban area,
Mr. Brendsel, and the numerator-denominator concern that Mr.
Johnson pointed out to us with regards to the refinancing included
in the dilemma that that makes, but nevertheless I think that it
is in fact dynamic. And I take it that you are attempting to con-
tinue, when we talk about substituting counseling for equity. I look
at my friends working in historic preservation and finding out that
taking care of a home, when it is way over the value amount and
yet has some very important considerations in a community, plus
I think the important programs of the moderate-income housing fi-
nance programs to deal with cities so that you don't have to go to
the suburb to get a $200,000 loan but you can do it in our commu-
nities, St. Paul and Minneapolis area.

So I appreciate the efforts you continue to work at these goals,
and we obviously need to continue to understand what the prob-
lems and dilemmas are, because of the tremendous importance of
this market in really dealing with the problems that troubled com-
munities are experiencing, continue to experience in the 1990's.

I am also concerned, incidentally, about this home equity loan
phenomenon and what the impact of that is on refinancing and
some of the other aspects you are working with. So we can talk
about that later, but I don't want to prevail any longer on the
chairman or on Mr. Watt's time.

Thank you, Mr. Chairman.

Chairman Gonzalez. Thank you, sir.

Mr. Watt.

Mr. Watt. Thank you, Mr. Chairman.

Thank you, Mr. Vento, for yielding to me, at least saving me a
little bit of time here.

Mr. Chairman, they say a little knowledge is a dangerous thing,
and sometimes you have to ask some questions to get even to the
point where you have a little knowledge. And I have some ques-
tions, some specific questions, but I can't resist the temptation to
kind of pick up on one point that Mrs. Roukema started, and Mr.
Brendsel responded in a way that surprised me, I suppose.

Maybe it reflects my lack of knowledge or the little knowledge
that I have about how these secondary market operations or GSEs
work. But I had always thought that the purpose of these two
GSEs was to deal in mortgages with higher risk. I mean, I thought
that was one of the underlying purposes.

And it seems to me that if that is a purpose, and if a purpose
is also safety and soundness, as Mrs. Roukema suggests that it is,
to say that those two things are not in conflict with each other,
maybe constructive conflict, but certainly conflict nevertheless, is to
be less than honest with us.

And then I would add a third element that goes beyond safety
and soundness, and then I will allow both of you to address this
kind of general philosophical question, and that has to do with the
element of return to your shareholders, which seems to me to go
a little beyond safety and soundness. I mean, safety and soundness
is one thing, but making sure that you maximize your return to
your shareholders goes beyond safety and soundness, and seems
that that third thing puts an even greater tension into the equation
and the balancing act that you are required to do.

I guess my question is, maybe, Mr. Brendsel, whether you are
sincere with us when you say you don't see those things as being
in conflict with each other, or maybe I misunderstood what you
were saying.

Mr. Brendsel. Maybe I wasn't clear, Mr. Watt. Maybe I didn't
explain myself with the right choice of words that I should have.

You begin with the phrase a little knowledge is a dangerous
thing. In listening to your question, I don't think that reflects just
a little knowledge about the kind of fundamental and important is-
sues to talk about when we talk about companies like Freddie Mac
or Fannie Mae, which are government chartered, for a purpose. It
is the purpose of increasing the availability of mortgage money for
people to buy homes or for rental housing in this Nation, in a safe
and sound way. It is really so we can improve the quality of life
of Americans in this Nation.

Now, I said a couple of other things when I commented earlier,
but I don't believe they are in conflict. I think I could accept the
modification of a constructive kind of tension. But having someone

be able to get a loan that thev can afford to make the payments
on is not just important to us, but it is very much important to the
home buyer, who is taking out the loan. There is also the impor-
tance of making a sound, multifamily loan to a responsible owner
that we think is soundly underwritten so that the owner will, over
a reasonable set of economic conditions, be able to maintain that
property and make the mortgage payment. Not only is it important
to us as an investor but also it is important to the tenants in that
building.

I made reference earlier in my remarks today about our experi-
ences in the Multifamily Program. I have been through many,
many, many apartment buildings in inner cities that we have fi-
nanced where the landlord, the owner became distressed and the
first one to feel the impact of that, even before Freddie Mac feels
the impact from the loss on that mortgage loan, are the tenants
that live in that building.

So to have soundly written loans that the borrower, whether the
home buyer or the owner of an apartment building, can afford to
repay, is in our interest as an investor and also in the interest of
home buyers and renters.

Let me go to one additional comment on part of the question that
you posed, and that is, absolutely, it is the responsibility of Freddie
Mac to use every ounce of effort that we have to find ways to buy
every mortgage loan that we can purchase, that we think is invest-
ment quality, that the borrower has a good chance of being able to
repay. And our commitment to that goes beyond what you would
find in a private company, not chartered by Congress, and we de-
vote enormous resources to that.

And you can call that taking additional risk. I call it taking addi-
tional effort to understand how to make those mortgage loans, how
to buy those mortgage loans.

Mr. Johnson. Congressman, I think you have identified one of
the most fundamental questions facing our company, and that in-
volves the ongoing balance between the fulfillment of our housing
mission, the safety and soundness required by the committee and
now enforced by the regulator, and the appropriate return to our
shareholders to ensure that the number one objective, when we
were created, continues to be true, and that is, we were created be-
cause the Congress wanted to have open-ended access to the capital
markets for the funding of housing, and wanted that open-ended
access to be organized in such a way that there would be no ceiling
on the amount of mortgage money we could provide, so at any
given time, whether it be recession, or difficult times in one part
of the country, we would continue to come forward with the mort-
gage money. , , , r

One of the reasons we are very attentive to the level of return
is that we want to be able to go to the capital markets at any time
to raise additional funds. The years 1992-1993 are very important
examples in that regard, where because of that surge of activity in
mortgage making, we have had to use virtually all the capital at
our disposal in order to continue to grow during this period and
continue to provide that function.

Had we had less capital on our books, had we had fewer profits,
if you will, over the last few years, in the course of a year like

1993, we could very well have come to a screeching halt in terms
of our ability to provide the financing around the country that we

do.

Let me just say one other word about the housing mission and
risk. It is something that we try to balance in a lot of different
ways. The chairman earlier pointed out todav section 304 of the
National Housing Act, which requires us to deal with investment
grade mortgages, and to be yery attentive to the quality of the
mortgages that we deal with.

Now, even in that context, I have iust been at Fannie Mae for
a little less than 4 years, but since I have been there, through the
foreclosure process, we have charged off about $1 billion of Tosses.

Now, we are very prudent in how we go about making mort-
gages, we are very prudent about our capital levels, we are very
attentive to the returns, but even with all of that in the 3% quar-
ters years I have been at Fannie Mae, we have had to charge off
about $1 billion of losses, because of underwriting mistakes that
have been made in the system that exists today.

So we take a lot of risk. We also have a big housing responsibil-
ity. And we have the ongoing organizational responsibility to be
safe and sound and maintain our access to the capital markets.

So you are at the crux of the most important management chal-
lenge that we face, and we address this, I address this at virtually
every board meeting with our outside directors. It is something
that we spend endless management retreats focused on, as to what
the appropriate level of housing risk is, the appropriate safety and
soundness. So you are right at the core of what we are doing and
thinking about.

Mr. Watt. I would have to say I guess that is why I was sur-
prised at the response that I thought I heard the first time around
to this question, that there is not this tension that is always there.
It seems to me the only way this thing ever worked is that there
is a tension between greater risk, safety and soundness, and inves-
tor return, otherwise — I mean, the process simply won't work.

I appreciate you all articulating it so that I understand it better.
I thought I had somewhat of a knowledge, but it helped me just
to hear both of you walk us through that.

And I would say to Mrs. Roukema, I think we have got to con-
tinue to push not only for safety and soundness, and I don't mean
to suggest by any stretch of the imagination that we ought to sac-
rifice safety and soundness, and I understand better now the need
to also be attentive to the return on investment aspect in light of
what you have said.

Mrs. Roukema. Will the gentleman yield?

This is a very interesting question that you have posed, and I
would like to ask for a point of clarification or rather a point em-
phasis, and to correct me if I am wrong, with both Mr. Brendsel
and Mr. Johnson.

Mr. Watt initially referred to your market as being higher risk
markets. That may be somewhat of a misstatement. In the context
in which I think of higher risks, I would suggest it is FHA that was
established for the higher risk mortgage market. And we must be
careful to understand that neither Freddie Mac nor Fannie Mae
are surrogates of HUD.

What they do, as I think has been very adequately explained
here today, they do provide access to the mortgage markets and the
capital — the capital markets for the mortgage markets, and that is
important.

And there is an element, although a strong element, of taxpayer
risk here if the underwriting standards in these safety and sound-
ness standards are not complied with. I think Mr. Watt and I are
saying the same thing. But his question has led to a very inform-
ative discussion here to put you in the proper context of the law,
and of the markets for which you serve.

Mr. Johnson. May I respond for just a second?

One of the reasons I made reference in both the testimony and
in the oral comments that I started off with to FHA is exactly the
reason you mentioned. As we are getting more and more aggressive
about reaching out to cities, inner cities, to minority borrowers, and
the FHA is getting focused on doing more and more of that them-
selves, it is critical over the long term that we have the right kind
of partnership with the FHA, because they have a number of re-
sponsibilities, we have a number of responsibilities. We shouldn't
be competing against each other. We should be partners of each
other.

Our statutory background emphasizes low-, moderate-, and mid-
dle-income families. So we have a much broader service span than
the FHA does. But as we get more aggressive about serving central
cities and other areas that really need help, we will be in closer
working quarters with the FHA. We already are in a number of cir-
cumstances. And one of the things we will have to do over time is
get that straight.

Mr. Watt. Mr. Chairman, I realized I used my time on the philo-
sophical here, but I have two very short questions that I think can
be answered very quickly that are a lot more specific than that.

Mr. Johnson, you indicated that this refinance, the 60 percent of
your mortgages are refinances this year, and that is skewing your
other

Mr. Johnson. Counting.

Mr. Watt. Counting. And you mentioned the 13-percent figure,
which I was hoping would be higher, but I think part of the reason
it is not higher, if I understand what you are saying, is that 60 per-
cent of your work this year is refinancing.

If you factored out the refinancing, are you able to tell us what
that percentage is?

Mr. Johnson. I am not, unfortunately, off the top of my head,
but I would be happy to send you a note with that.

Mr. Watt. If you could just provide that information to us. I re-
member you said to Mr. Vento it was better, but you didn't say how
much better.

[The information referred to can be found in the appendix.]

And finally, you talked some about the diversity of— I am sorry,
I would like to have that from Freddie Mac also, if you could give
us that information.

Mr. Brendsel. Absolutely. We would be happy to do that.

[The information referred to can be found in tne appendix.]

Mr. Watt. And to both of you, Mr. Johnson in particular talked
some about diversity of work force. Can you say a few comments.

each of you, about what kind of progress we are making, not only
in terms of diversity of work force, but diversity at the manage-
ment levels and higher management areas?

Mr. Brendsel. Let me make comments in two areas: One, with
regard to work force, and second, with regard to other areas of our
business, including the mortgage lending business.

With regard to diversity of work force, frankly I didn't bring sta-
tistics with me. Let me just emphasize first that it is very impor-
tant, a very high priority for us to have diversity, not only in terms
of

Mr. Watt. Can you provide those statistics to us? I know Mr.
Johnson's organization has been very aggressive on that front, and
you may be also. I just don't know as much about

Mr. Brendsel. We would be happy to provide the statistics to
you. In fact, not too long ago we provided statistics to the commit-
tee in that regard.

[The information referred to can be found in the appendix.]

Certainly, in that regard we would imdertake a number of out-
reach programs in terms of hiring as well as in terms of develop-
ment and promotion of minorities, and frankly women as well, into
the management ranks of the company.

With regard to mortgage lending, as I already indicated in my
comments both in the written statement as well as in the oral dis-
cussion earlier, removing obstacles and barriers and reaching out
to minorities in the mortgage lending process to ensure that we are
working with lenders in every possible way so that they can make
loans to minorities is of critical importance to us. In fact, as I indi-
cated earlier, through a number of efforts with regard to studies
and review of our guidelines in working with lenders, we are at-
tempting to do everything we can in that area.

With regard to other areas of our business, whether it is securi-
ties issuance, or whether it is legal work, we take the general ap-
proach that we should have no restrictions in our business policies
that inhibit doing business with minority firms or smaller firms
that don't make sense from an absolute business basis; second, that
we should reach out in terms of education and information to mi-
nority firms and smaller firms, so that they know how they can do
business with us.

There are many examples that I could provide. One, if you take
some time and travel out to Dulles Airport, you drive by our build-
ings along the way; along the Dulles toll road, we have two build-
ings under construction, one of those was designed by a small mi-
nority firm in the area.

Mr. Johnson. I will be very brief. Congressman.

In the last 2 years we made the diversity of our work force a core
value at Fannie Mae, and we intend to be diverse up through all
levels of management and are making very good progress in that
regard. I will be happy to give you the specific numbers, but at all
levels of the company, whether it be manager, director, vice presi-
dent, senior vice president, all the way up to the vice chairman of
our company, we have made progress that I in fact am very proud
of

Also, in the minority contracting area, we have been very slow
to move as fast as we should, but if you look now at the numbers.

n/i -111

in 1992, only 1 percent of the outside contracting that Fannie Mae
did was done with minority contractors. We have now, for 1993, we
will hit a level of 16 percent, because we have now put in place a
very effective program.

We have also in the last year put into place a very eflFective pro-
gram of using minority and women-owned investment banking
nrms. Since we are the largest issuer of securities in the United
States outside of the U.S. Government, we have an enormous use
for people who are in the investment banking field, for the distribu-
tion of our securities.

We now have 10 minority and women-owned firms who have
been added to our debenture selling group. We have minority- and
women-owned firms now active in our REMIC Issuance Program,
and we are making very substantial progress there.

We would be very pleased to give you figures in all these areas.
I think we are moving along reasonably well.

[The information referred to can be found in the appendix.]

Mr. Watt. Thank you, Mr. Chairman. I appreciate the Chair's
indulgence.

Chairman Gonzalez. Well, thank you, Mr. Watt.

If I may be permitted to make an observation, when you initiated
your discussion, you mentioned what appeared to you to be a di-
chotomy; that is, a conflict between the avowed intent of the two
institutions. The word that disturbed me was the word you used,
"risk." It has been our hope that they wouldn't even think of that
word. And the Housing Act, section 304, mandates that the Fannie
Mae be confined to mortgages which would meet minimum credit-
worthiness.

That is the word that I would prefer to the word "risk," Because
when you talk about involving in risky ventures, that is the thing
we have been most concerned with. I think what you really meant
was, is there a conflict between the intention to meet the goal of
confining the mortgage activities to those that meet minimum cred-
itworthiness standards.

Of course, I am not in the business, you may have been, and how
you interpret "minimum creditworthiness" I am sure is a first-class
task in its own self. But I did want to make that observation,

Mr. Watt. Mr. Chairman, I appreciate that. Out in my commu-
nity, when in here they are saying aye, we just say yes. So it is
just one of those semantic things, I suppose.

Chairman Gonzalez. Well, let us then end up as we started, by
thanking both witnesses.

And, Mr. Brendsel, I am delighted to hear of your reentry into
multi-housing. As you will recall in 1989, when you announced the
departure, I was quite aroused about it. We had a meeting on that
subject matter. So I am very happy to see that you are going back
into it.

Mr. Brendsel. Thank you, Mr. Chairman.

Chairman Gonzalez. The other thing is that what I have always
said, and at the inception of this concept of secondary mortgage in-
stitutional activity was that at that time in the early 1970's you
had a primary, although quite speculative and bubbly, nevertheless
there it was.

Since then, my big fear is that the secondary is going up here
and it has left Httle or no existing primary with the dissolution of
the financial institutional framework of reference that was created
actually before the war in the 1930's in order to provide that finan-
cial framework of reference to the national commitment to a family
wishing and desiring to have a safe, affordable, and decent house.

Therefore, we had the disappearance of that great institution
known as the long-term fixed mortgage and with the great aberra-
tions of the markets and the consequent reflection in the soft un-
derbelly known as the savings and loan. They were predicated on
having interest stability inasmuch as they had that regulation Q
advantage in order to enable them to provide for that real stable
30-year fixed mortgage, which enabled the average family at the
time and since then and up to about the late 1970's. So I am dis-
turbed by the fact that we have not fully restored it.

Just the other day we had a hearing on the National Home Own-
ership Trust, and the hearing was very, very significant, because
of the witnesses. One of them was a homebuilder all the way from
the far west coast, Oregon. The witness stressed the fact that they
desperately needed and were very, very anxious to have what I
have labeled the National Home Ownership Trust Fund.

I am the one that put that legislation through, and finally did
in the 1990 Housing Act, but it hasn't been funded. One of the key
intentions was to provide at least the start of finding an alternative
to that framework of reference that has collapsed in the mean-
while.

So I am hoping that you all will join us in trying to push for its
extension next year, and also the funding of that trust. I believe
it is the only way we can eventually come around to it, and restor-
ing, at least in the home ownership area, single-family home own-
ership area, some measure of restoring the national commitment
and the production of housing and affordable rates, and in terms
that particularly the young and the new first-time home buyer will
be able to have their own home.

So I will leave with that thought in mind. It is a little selfish on
my part, because I have been the author of that idea. And in fact
thought of it since the middle 1970's when it was obvious that a
crisis was coming around us, and the first harbinger of it was the
REITs, or the Real Estate Investment Trust scandals, which were
actually basically no different than what happened later in the
1980's, to our travail.

So we are thinking, how long is it going to take the Congress and
the private sector to realize that this whole apparatus that was de-
vised before the war is crumbling around our ears. We have to find
ways to be as efficient in meeting that challenge as those forebears
of us were in the 1930's.

So with that thought, I want to thank you. And unless you have
some additional statement or questions you may wish to raise, we
will consider the subcommittee and committee as adjourned until
further call of the Chair.

[Whereupon, at 12:30 p.m., the hearing was adjourned, subject to
the call of the Chair.]

APPENDIX

November 19, 1993

' 34

Opening Statement of
Chairman Henry B. Gonzalez
Hearing on Government Sponsored Enterprises
November 19, 1993

The Subcommittee on Housing and Community Development is holding
this hearing in order to focus on issues related to two of the
Government Sponsored Enterprises under the Subcommittee's
jurisdiction - the Federal Home Loan Mortgage Corporation and the
Federal National Mortgage Association.

The Subcommittee is particularly concerned about these GSEs
compliance with the recently published interim affordable housing
goals for both of these Corporations. The Subcommittee expects that
both GSEs will be able to more than fully meet both the interim
housing goals that were published on October 13, 1993, and the
long-term housing goals set-forth in statute.

Congress established the affordable housing goals because of the
previous lack of concrete information on both Freddie Mac and
Fannie Mae's activity in the area of housing for low-income
persons. While HUD has had regulations since the 1970s requiring
that 30% of Fannie Mae's mortgage purchases be for low-and
moderate- income persons. It, however, has not been clear that low-
income persons have benefited in any way from the previous HUD
requirements.

The Subcommittee, thus, created specific low-income housing goals

for these GSEs. These goals are contained in Title XIII of the
Housing and Community Development Act of 1992, which is also
referred to as the Federal Housing Enterprises Financial Safety and
Soundness Act of 1992. This statute establishes 3 primary low-
income housing goals: 30% of the GSE's conventional mortgage
purchases must be to finance housing for low and moderate income
families; 30% of the GSE's conventional mortgage purchases must be
to finance housing located in central cities; and the GSEs must
purchase conventional mortgages for specific special affordable
housing goals of $1.5 billion for Freddie Mac's purchases and $2
billion for Fannie Mae's purchases.

The Subcommittee is also very concerned about the capital adequacy
of each of these GSEs, particularly since both these GSEs have a
line of credit with the United States Treasury of up to $2.25
billion. The GSE Act establishes 3 new capital levels for these
GSEs, which include the "risk-based" level, the minimum level, and
the critical level. The Subcommittee created these capital
standards to protect against any necessary draw from the federal
government and to ensure that these institutions not take
unnecessary risks without adequate safety and soundness criteria.

I now look forward to the testimony from these secondary mortgage
market institutions.

11/19/93

REMARKS OF
HONORABLE MARGE ROUKEMA
GOVERNMENT SPONSORED
ENTERPRISES

Mr. Chairman, I want to welcome our distinguished witnesses today.

As an aside, Mr. Chairman, I want to take a moment to say to Mr.
Johnson how much I appreciated the lenders conference FANNIE MAE
sponsored in Saddlebrook, New Jersey last Friday.

Although I had intended to address the conference, a last minute
scheduling conflict caused me to miss it. However, I do appreciate
FANNIE MAE'S interest in working with the lenders in our area of the
State to help promote homeownership opportunities.

FREDDIE MAC and FANNIE MAE were chartered by the Congress as
stockholder-owned, privately managed corporations to provide an
affordable and adequate supply of mortgage credit to those citizens
seeking the American dream of homeownership.

We continue to support this objective.

Clearly, FREDDIE and FANNIE are doing what they were chartered to do.
Recent highly impressive quarterly earnings reports by both
organizations, especially in light of the general state of our real
estate and home construction markets, and the troubles our banks and
thrifts were having with their real estate portfolios, is a great credit
to the leadership of Jim Johnson and Leland Brendsal .

AFFORDABLE HOUSING

In the GSE legislation we passed two years ago we mandated a new
affordable housing requirement because it was felt that the benefits of
the Federal charter enjoyed by the enterprises should place certain
responsibilities on these entities.

One of these responsibilities is to use the resources and expertise
of the enterprises to invest in and encourage investment in housing that
benefits low- and moderate- income families.

This is not to say that the enterprises were not being responsive to
the needs of the low- income community. In fact, both FANNIE and FREDDIE
have over the years developed substantial and innovative investment
programs for low- income families.

Nevertheless, the bill included a carefully crafted program to
encourage the further investment in low- income housing.

Under this program, FANNIE and FREDDIE were required to establish
affordable housing goals which would require the GSEs to make certain
levels of mortgage purchases. The purchases would target both single and
multi- family housing and those individuals and families with at certain
income levels.

This compromise, which was worked out by the GSEs and the housing
advocate groups, represented a positive step in the right direction for
the provision of affordable housing for all.

On October 12, HUD officially announced the affordable housing goals
for the GSEs. These require that 30% of GSE business be directed to
finance low- and moderate- income housing and that approximately 30% of
that goal should come from mortgage purchases in central cities.

These goals are appropriate for the GSEs

They are achieveable, although I understand that the central cities
goal has raised some questions by the GSEs.

And they have the support and commitment of both FANNIE AND FREDDIE.

I want to make it perfectly clear, however, that these GSEs are not
HUD and they never should be considered a substitute for HUD as the
Agency in charge of setting out and fulfilling the housing policy of this
nation.

Finally, while the affordable housing goals established for the GSEs
is laudable, these goals must not ever place the safe and sound operation
of the GSEs in any jeopardy.

The achievement of these goals will result in hundreds or even
thousands of new homeowners who otherwise may never have had the
opportunity to embrace the ultimate American dream.

I know both Mr. Johnson and Mr. Brendsel have committed themselves to
meeting these goals and I appreciate their efforts.

CAROLYN B. MALONEY

14th DrSTRICT New YOBK

COMMITTEE ON BANKING. FINANCE
AND URBAN AFFAIRS

COMMITTEE ON
GOVERNMENT OPERATIONS

CONGRESSIONAL CAUCUS
ON WOMEN S ISSUES
EXECUTIVE COMMITTEE

CONGRESSIONAL ARTS CAUCUS
EXECUTIVE COMMITTEE

Congreffg of tfje ®niteb States;
^ouit of i^epre£(entatibe£t

raastiinston. IBt 20515-3214

OPENING STATEMENT
Subcommittee on Housing & Community Development

Hearing on "Issues Related to Government Sponsored Enterprises"
November 19, 1993

WASHINGTON OFFICE
1504 LONCWOdTM BuilOING

Washington DC20S16-3214
1203} 225-7944

DISTRICT OfflCES

960 Third Avenue

19th Floor

NEW YORII NY 10022

(212)832-6531
26-1 1 Astoria Blvo
astoria ny 1 1 102

17I8I932-1B04
619 LoRiMER Street
Brookltn NY 1 121 1

(718) 349-1260

Thank you Mr. Chairman. I appreciate your scheduling this hearing on the important issue of
GSE compliance with affordable housing goals. As I mentioned at previous hearings, I believe
that the Federal Government, and all of its affiliated enterprises, has few more important
responsibilities than creating and maintaining affordable housing.

In years past, this Subcommittee faced difficulty in obtaining concrete information about the
efforts of Fannie Mae and Freddie Mac to help create affordable housing. Despite mandates
from the 1970s that 30% of the mortgages purchased by Fannie Mae be for moderate and low-
income persons, information on success of these goals was sketchy.

I do believe that GSE's, overall, have benefited the creation of new housing in the US. But
I believe, that as a Federally-sponsored entity they must serve the greater goal of the creation
of affordable housing. Without a decent place to live, all of the other individual rights we hold
so dear, are impossible to achieve.

Again, my thanks to Chairman Gonzalez for scheduling this timely hearing.

^^^.a^

PRINTED ON RECYCLED RARER

TESTIMONY OF LELAND BRENDSEL

CHAIRMAN OF THE BOARD AND CHIEF EXECUTIVE OFFICER

FEDERAL HOME LOAN MORTGAGE CORPORATION

BEFORE THE SUBCOMMITTEE ON HOUSING AND COMMUNITY DEVELOPMENT

NOVEMBER 19, 1993

I. Introduction

Good Morning Chairman Gonzalez, Congresswoman Roukema and Members of the
Subcommittee, it is a pleasure to be here. My name is LeIand Brendsel, and I am
Chairman of the Board and Chief Executive Officer of the Federal Home Loan
Mortgage Corporation, commonly known as Freddie Mac.

I want to thank you for the opportunity to appear before you to discuss the secondary
mortgage market, the interim housing goals ("the housing goals") established by
Congress in the Federal Housing Enterprise Financial Safety and Soundness Act of
1992, ("the GSE Act") and implemented by the Department of Housing and Urban
Development ("HUD") by notice in the Federal Register on October 13, 1993, and
Freddie Mac's commitment to meeting those goals.

Mr. Chairman, over the course of your distinguished career on the Banking Committee,
you have been a leader in mortgage finance issues, and your support has benefitted
the secondary market, Freddie Mac and America's homebuyers. The enactment of the
GSE Act last year was another example of your support. As a result of your actions,
the Congressional success stories known as Freddie Mac and Fannie Mae have a
modern regulatory structure, including innovative capital standards. I would like to
thank you for your efforts and support in that regard.

In addition to creating a new regulatory system. Congress in the GSE Act asked us
to focus on extending the benefits of the secondary market. That request is embodied
in the housing goals recently promulgated by HUD. My testimony will focus primarily
on those goals and our strategy to achieve the housing goals; however, I would like
to discuss briefly the secondary mortgage market and recent events before I proceed
with a discussion of the housing goals.

II. Background

A. The Secondary Market and the Housing Finance System Today
America has the best housing finance system in the world, in large part due to the

existence of a strong secondary market. Today mortgage credit is widely available
across the country on the best terms that the capital market has to offer. We
estimate that the efficiencies produced by the secondary market currently save
American homebuyers approximately 1/2 of one percent, or about $5 billion each
year.

The secondary market serves as a link between the primary mortgage market, where
mortgages are originated, and the national and international capital markets. In other
words, by purchasing mortgages with funds obtained from the capital markets,
Freddie Mac enables individual homebuyers to compete with General Motors and other
large corporations for capital. Freddie Mac purchases conventional mortgages from
primary lenders across the nation and packages the lion's share of those mortgages
into securities. We, in turn, sell the securities to investors so that the cycle can begin
again. This process allows a homebuyer in Texas the same access to mortgage funds
as a homebuyer in California or New Jersey.

Congress created Freddie Mac and extended Fannie Mae's authority to purchase
conventional loans with the Federal Home Loan Mortgage Corporation Act in 1970.
At that time the housing finance market looked very different from today's market.
Prior to 1970, the cost and availability of mortgage credit varied by region because
the primary source of funds for mortgage credit -- thrift institution deposits -- may not
always be plentiful in the areas needing such credit. In addition, the individual
homebuyer had no access to the national and international capital markets. Variances
in mortgage funding affected not only the individual homebuyer but also the housing
market and economy as a whole. As you have often noted, Mr. Chairman, the
housing industry provides jobs, so that there is a critical need for a steady and reliable
source of funds.

Freddie Mac was created to address these regional credit variances by developing a
national secondary market in conventional mortgages. To accomplish this mission,
Freddie Mac and Fannie Mae built the infrastructure for this market through the
development of standardized mortgage loan documents and underwriting guidelines
that allowed for the wholesale purchase of loans on a nationwide basis. Freddie Mac
also assembled a network of primary market lenders, commonly referred to as
Seller/Servicers. Through this network, we have bought and will continue to buy
loans in good times and in bad in all geographic regions of the country. We did that
during the hard times in Texas in the 1980s and we are doing that now in the
northeast and California. We view nationwide reliability and geographic diversity as
important reasons why there has been no credit crunch in housing finance, despite the
substantial contraction of the thrift industry.

Freddie Mac continues to be the leader in developing and refining the mortgage
securitization process. In 1971 Freddie Mac developed the first conventional
mortgage-related security, or Mortgage Participation Certificate, which we nicknamed

the "PC." In 1983, we designed the Collateralized Mortgage Obligation, or CMO, to
bring what at the time were non-traditional investors, such as pension funds and
insurance companies, to the mortgage marketplace. The CMO was the forerunner of
the Real Estate Mortgage Investment Conduit ("REMIC") multiclass security which is
an integral part of today's mortgage financing market. These innovations in the
secondary mortgage market have attracted a large and global base of investors to
mortgage-related securities. Without their confidence, we would not have this low-
cost, reliable source of funds for housing.

The liquidity provided to primary market lenders by the secondary market fosters
competition by those lenders, resulting in more mortgage products and enhanced
affordability for the homebuyer. By having an outlet for their new products, mortgage
lenders are able to offer consumers a range of mortgage products to meet their
individual situations. In this way, the secondary market has led to innovation in the
primary market. The ultimate beneficiary of this competition and innovation is the
American homebuyer or renter whose rates or rents are lower, whose choices are
expanded and whose sources of credit are more reliable.

B. Corporate Governance Changes at Freddie Mac

The past four years have been a time of tremendous change at Freddie Mac. In
particular, the change from quasi-governmental ownership to wholly private ownership
has been revolutionary.

The enactment of the Financial Institutions Reform Recovery and Enforcement Act of
1989 (FIRREA) significantly changed Freddie Mac's corporate governance structure.
Prior to 1989 Freddie Mac's stockholders were the saving and loans and other
members of the Federal Home Loan Bank System. Under FIRREA our preferred stock
was converted to common stock, and general public ownership of Freddie Mac was
permitted for the first time. FIRREA also authorized a new Board of Directors for
Freddie Mac, 13 of which are elected by the shareholders, and five appointed by the
President of the United States. FIRREA completed the transformation of Freddie Mac
from a quasi-governmental agency to a shareholder-owned private corporation. By
providing stable corporate governance and access to equity capital, this change
strengthened Freddie Mac's ability to meet the nation's housing finance needs.

C. The GSE Act

In 1 989, when Congress passed legislation to address the thrift crisis, it also
requested studies on the financial safety and soundness of Freddie Mac and Fannie
Mae from the Congressional Budget Office ("CBO"), the Department of the Treasury
("Treasury"), the General Accounting Office ("GAO") and others. These studies found
that neither Freddie Mac nor Fannie Mae presented an imminent financial risk to the
government; but the studies did recommend that the regulatory system for Freddie

Mac and Fannie Mae be modernized. As a result, Congress, in the GSE Act,
established the Office of Federal Housing Enterprise Oversight ("OFHEO") to oversee
the financial safety and soundness of Freddie Mac and Fannie Mae.

Freddie Mac carefully manages its risks and has considerable real capital to support
them, as confirmed by the CBO, GAO and Treasury. Nonetheless, Congress sought
to safeguard the financial soundness of Freddie Mac and Fannie Mae by including
innovative capital requirements in the GSE Act. The GSE Act provides for three
capital standards-critical, minimum and risk-based. To meet the critical capital
requirement, Freddie Mac must hold 1.25 percent capital for our on-balance sheet
assets, and 0.25 percent capital for our off-balance sheet assets. To meet the
minimum capital requirement, Freddie Mac must hold 2.50 percent capital for our on-
balance sheet assets, and 0.45 percent capital for our off-balance sheet assets. As
of the end of the third quarter of 1 993, Freddie Mac's exceeded the applicable critical
and minimum capital requirements.

The risk-based capital standard is the most dynamic of the three. It requires Freddie
Mac to hold sufficient capital to withstand 10 years of adverse changes in interest
rates and mortgage defaults, as defined in the GSE Act. This test is dynamic,
changing the capital requirement as our exposure to interest-rate risk, resulting from
rising or falling interest rates, and credit risk, resulting from higher default losses,
changes. This test is similar to Freddie Mac's internal risk-based capital test, which
we pioneered as a tool for prudent financial management. In addition to the capital
required by this test, the enterprises will have to hold an additional 30 percent to
cover management and operations risk. The dynamic nature of the GSE Act risk-
based capital standards distinguishes it from other so-called "risk-based" capital
standards, such as those applied to insured depository institutions. Those standards
present a fixed capital ratio requirement for each asset held, based on the degree of
risk associated with that general category of asset. The risk-based capital standard
in the GSE bill is the most rigorous capital standard in the financial services industry,
and Freddie Mac intends to meet this standard when it is implemented.

This new regulatory requirement includes the most forward-looking capital standard
in existence. By automatically adjusting to economic conditions, this capital standard
reduces the need for regulatory involvement in the operations of the GSEs. However,
should either entity fall below the Congressionally established and regulatorily
monitored capital standards capital standards, the regulator has appropriate tools and
authority to ensure that the government's financial interest is adequately protected.
We look forward to working with OFHEO Director Alvarez in implementing the
legislation through regulation.

In addition to establishing the capital standards, the GSE Act also authorized the
Secretary of HUD to establish housing goals for each enterprise.

III. The Housing Goals

Freddie Mac's corporate mission is, as a shareholder-owned corporation, to improve
the quality of life by making the American dream of decent, accessible housing a
reality. In describing our efforts toward meeting the housing goals, I want to stress
that Freddie Mac has been in the business of affordable housing throughout our 23-
year history. Since our creation, approximately one in four of the more than 1 2 million
loans we have purchased has been for families with low or moderate incomes.

We are proud of all we have accomplished. Moreover, we are dedicated to extending
the benefits of the secondary market as widely as possible. This is a challenge that
we welcome.

The housing goals established by HUD are tough and challenging. However, Freddie
Mac is committed to meeting them. There are three goals covering a two-year period:
the low- and moderate-income goal, the central-cities goal and the special affordable
goal. The housing goal for Freddie Mac's purchase of mortgages secured by housing
for low- and moderate-income families ("low- and moderate-income housing goal") is
28 percent of the total number of dwelling units financed by the mortgage purchases
of Freddie Mac for 1993 and 30 percent for 1994. The housing goal for Freddie
Mac's purchase of mortgages secured by housing located in central cities ("central-
cities housing goal") is 26 percent of the total number of dwelling units financed by
the mortgage purchases of Freddie Mac for 1993 and 30 percent for 1994. The
special affordable housing goal for the two-year transition period (1993-1994) for
Freddie Mac equals two times the dollar volume of Freddie Mac's 1 992 purchases that
meet the income requirements of the special affordable housing goal plus $1.5 billion.

Freddie Mac has begun to amass extensive, automated data to learn about the
housing market and to monitor our mortgage purchases and policies. Effective
January 1, 1993, we required Seller/Servicers to provide data on borrower income,
borrower race and information to enable us to determine census tract location, as
required by the GSE Act. With this information we will be in a much better position
to analyze our performance relative to the housing goals.

We are actively working to collect complete and accurate information. Because these
data collections efforts are relatively new, at this time we can provide only
approximate figures for our 1993 mortgage purchases. We estimate that from
January to September 1 993, about 27 to 29 percent of the housing units securing our
mortgage purchases were for families with low and moderate incomes. The data
recently released under the Home Mortgage Disclosure Act ("HMDA") show that
approximately 26 percent of Freddie Mac purchases for 1992 served low- and

moderate-income households. However, the HMDA data do not include all of Freddie
Mac's purchases that are applicable to meeting the housing goals. For the first nine
months of 1993, we estimate that 21 to 26 percent of the housing units that secure
our mortgage purchases financed properties located in central cities.

The multifamiiy market faces unmet credit needs, particularly in comparison to the
single-family market. Freddie Mac's re-entry to the multifamiiy market by the end of
1993 will be crucial to our ability to meet the housing goals. A significant portion of
the multifamiiy mortgages we purchase will be secured by buildings located in central
cities. In fact, our re-entry to the multifamiiy market is the most important single step
we will take toward achieving our corporate mission and meeting the housing goals.

Our ability to meet the housing goals depends on Freddie Mac having a sound strategy
that we pursue aggressively. The ability to use that strategy to meet the goals, in
turn, depends on the feasibility of those goals. One purpose of the transition period
is to examine the market to determine what constitutes feasible goals.

We are concerned, however, about the 30 percent central-cities goal in 1994. These
concerns are based on several factors. First, we question the assumptions made by
HUD in establishing this goal, in particular, about the size of the central-cities
conventional mortgage market. We raised this in our response dated August 11,
1993 to Secretary Cisneros commenting on the proposed goals. As a secondary-
market enterprise we can only purchase what the primary market originates. The
effect of overstating the size of the market is to create a central-cities housing goal
that may be unrealistic and infeasible.

The second concern involves Freddie Mac's ability to identify single-family loans made
in central cities. Prior to the enactment of the GSE Act, Freddie Mac was not able to
identify the census tract for each single-family loan we purchased. However, to meet
the requirements of the GSE Act we have developed that capability through our
geocoding system, which we began using in August 1993. This system is refined and
will be fully operational in January 1 994. Our ability at this time to identify all of the
loans that we have made in central-city census tracts is limited. Despite these
concerns, we intend to make every effort to meet this housing goal, and we look
forward to working with HUD in the future to improve the central-cities analysis.

We are looking forward to working with HUD and Congress during the 1993-1994
transition period. This period provides an opportunity for Freddie Mac and HUD to
increase their understanding of underserved segments of the housing market, the
financing needs of those underserved segments and the appropriate role of the
conventional secondary market in addressing those needs. We expect that the
information we are gathering on mortgage purchases during this transition period and
the extensive research efforts we are undertaking will contribute to this
understanding, and in so doing help HUD in the establishment of housing goals - and

measuring performance against those housing goals -- beyond the transition period.

IV. Strategy to Meet Interim Goals

A. General Philosophy: Build on What Works

Freddie Mac's strategy is to expand underserved markets' access to mortgage credit
by expanding our mainstream programs. In other words, we will meet the needs of
these markets by capitalizing on the strengths of the secondary market: volume made
possible by standardization, and sound underwriting principles. This means enhancing
our standard single-family and multifamily programs. Taking advantage of the
strengths of a successful system, is the best way to achieve the volume necessary
to meet our corporate mission and the housing goals.

As part of our strategy, we use pilot programs and other targeted initiatives

to increase our understanding of the needs of the underserved, to experiment with

new mortgage products to meet those needs and to develop approaches to managing

their unique risks. The ultimate purpose of these efforts is to identify successful

products and approaches that can be incorporated into our existing purchase

programs.

We are committed to building on the proven success of the secondary market, which
has witnessed explosive growth during the past decade. In 1980, Freddie Mac
purchased almost $4 billion in mortgage loans; in 1 993 we anticipate purchasing more
than $200 billion. Such volume would not be possible without a standardized process
that allows qualified primary market lenders of different types to originate mortgage
loans that they can be confident can be sold to secondary market institutions. The
ultimate goal is to provide homebuyers, tenants, and affordable housing developers
and lenders access to the existing highly successful secondary market system. Only
by taking advantage of the efficiencies of this system, and providing profitable
business opportunities for all, will financing for underserved markets benefit from the
full scope and scale of the secondary market.

Our success in expanding the breadth of our activities will also depend on our
adherence to sound underwriting practices. Underwriting is used to assess the ability
of a borrower to take on a financial obligation. Defaults are bad for investors, bad for
borrowers and particularly bad for neighbors. Our challenge is to understand the risk
involved in addressing the needs of the underserved, and to find ways to mitigate and
control that risk. In that way we can ensure the investment quality of the loans we
purchase and the credit quality of the securities we issue.

Focusing on our mainstream operations to achieve our mission and the housing goals
reflects our strong belief that affordable lending can be, should be and is part of our

standard business base.

B. The Current Housing Environment

This country has made a great deal of progress since President Roosevelt spoke of
one-third of a nation ill housed. In the Housing Act of 1 949, this country established
the policy of a decent home and suitable living environment for every American family.

Between 1940 and 1991, the fraction of households in units with incomplete
plumbing facilities fell from 40 to 2 percent; the fraction who were overcrowded (that
is, more than one person per room) fell from 20 to 5 percent; and the fraction who
own their homes rose from 42 to 64 percent.

There continue to be a sizeable number of households with unmet housing needs.
After years of steady improvement, the homeownership rate began to decline in
1980, falling from a high of 65.6 percent to 64.1 percent in 1992. Many of these
needs reflect adverse trends in both the level and the distribution of household income
that began in the early 1970s. Real incomes grew by over 30 percent per decade in
the 1 950s and 1 960s. Since that time there has been a steady erosion in the earning
capacity of Americans with only a high school education, and median household
incomes have remained relatively flat - growing by only 6 percent in the past decade.

Households at the bottom of the income distribution -- many of whom are female-
headed households with children - have fared even worse. These households have
experienced an absolute decline in real income over the past two decades due in part
to the growing numbers of single-parent households and in part to the secular decline
in this country's manufacturing base.

The concentration of the poor - particularly members of minority groups - has made
their housing problems more acute. Many low-income communities today have
virtually lost their economic base and no longer provide the basic security ail
Americans should expect. Moreover, minorities also face discrimination in both the
housing and mortgage markets. Such discrimination has helped to maintain a highly
segregated housing market, and led to a higher incidence of substandard housing and
depressed homeownership rates among African-American and Hispanic households.

Conditions in the housing market reflect the social and economic environment.

Many of their effects cannot be addressed by Freddie Mac directly, but we can
address their consequences through creative actions. In both the single-family and
the multifamily areas we have tried to address specific housing needs, such as the
needs of central-cities residents, focusing our activities on a number of key areas,
such as reducing unnecessary underwriting barriers, where our potential to add value
is relatively high.

I would now like to discuss briefly Freddie Mac's actions to meet housing needs. The
report on our housing strategy that we will deliver to HUD and the Congress next
week pursuant to the requirements of §1337 of the GSE Act will provide a more
detailed discussion of our actions.

V. Single-Family Financing

America's housing finance system has been successful in providing housing for most
American families. With falling interest rates, the system has supported both the
huge demand for refinancing and the resurgence in demand by first time homebuyers.

The secondary mortgage market has played an enormous role in this success,
especially in the single-family market. The secondary mortgage market now finances
over 40 percent of outstanding conventional residential mortgage debt. This year,
two-thirds of the mortgages falling within the Freddie Mac/Fannie Mae loan limit os
$203,150 will be sold into the secondary market.

Freddie Mac purchases single-family mortgages from our network of more than 2,300
Seller/Servicers across the country. In addition to purchasing mortgages originated
by these Seller/Servicers, Freddie Mac also purchases mortgages originated by third-
party originators ("TPOs"), for example, mortgage brokers. We estimate that 10,000
TPOs sell mortgages to Freddie Mac through our Seller/Servicers, dramatically
expanding homebuyers' access to the benefits of the secondary market.

Freddie Mac purchases a wide variety of mortgage products through our standard
programs, whether by paying cash or by swapping them for Freddie Mac PCs. In this
case the phrase "standard programs" masks the flexibility of this process -
90 percent of these sales are negotiated transactions, that is, they have special
features to tailor Freddie Mac's guidelines and programs to the capabilities of
individual underwriters and the needs of their customers. The types of mortgages
Freddie Mac purchases include fixed-rate mortgages with 1 5- and 30-year maturities,
adjustable-rate mortgages ("ARMs") of varying types and balloon/reset mortgages.

Freddie Mac will continue to purchase the vast majority of our affordable housing
mortgages through our standard programs. In other words, achieving the affordable
housing goals will require the extension of our current business, not the creation of
a new one.

A. Expanding Standard Programs and Improving the Mortgage Delivery

System

In order to expand our existing programs to bring the benefits of the secondary market
to more homebuyers - and to meet the housing goals - we are:

Reviewing and improving underwriting guidelines.

Expanding the Seller/Servicer network.

Using pilot programs to experiment with new programs and incorporating
successful features into our standard programs.

Reviewing and Improving Underwriting Guidelines: Removing barriers to accessing the
secondary market, wherever in the process, from origination to securities sale, is a
critical factor in reaching underserved markets and an area in which Freddie Mac has
been in the forefront of industry efforts.

In addition, underwriting guidelines continually evolve as the social and economic
situation changes and information increases. To make sure that Freddie Mac's
underwriting guidelines are being properly interpreted, we continually review how
lenders use them. Following is a brief description of our efforts to review our
underwriting guidelines and adapt them to new situations and information.

ICF Study: In 1990 Freddie Mac commissioned a groundbreaking study by ICF
Incorporated. This study was designed to identify lenders' perceptions about
secondary market underwriting guidelines and the extent to which these perceptions
and specific aspects of the guidelines may be inadvertent and unnecessary barriers to
community lending -- particularly lending to low- and moderate-income borrowers and
minority borrowers. Through a series of focus groups conducted in 12 cities with
representatives of 1 33 lending institutions, the study revealed that many lenders were
unaware of the flexibility of our existing guidelines. Following the ICF Study, Freddie
Mac convened an industry working group of community lenders and housing
advocates to assist Freddie Mac in addressing the issues identified.

Bulletin 92-2: As a result of these efforts, Freddie Mac clarified or changed 28
sections of our underwriting guidelines, in a document formally released to
Seller/Servicers as Bulletin 92-2. For example, Bulletin 92-2 expanded the list of
acceptable sources of funds for down payments to include grants, which many
municipalities and nonprofit community groups provide to low- and moderate-income
borrowers. Bulletin 92-2 also added a provision in our underwriting guidelines
reminding lenders that residential properties in mixed-use neighborhoods are indeed
eligible for purchase.

UNBOG: The success of these efforts to identify and dismantle barriers led Freddie
Mac to create, in early 1993, the Underwriting Barriers Outreach Group ("UNBOG")
to continue the study of our mortgage underwriting process, identify potential barriers
and make changes as necessary. UNBOG consists of four regional groups comprising
representatives of community activists, development groups, the real estate
profession, the appraisal industry, minority and non-minority lending institutions and

mortgage brokers, and Freddie Mac. The groups meet semiannually to study and
recommend changes in the mortgage credit underwriting process that can reduce
unnecessary barriers. Freddie Mac continually requests and addresses feedback
provided by UNBOG participants.

For example, Freddie Mac has learned through UNBOG that lenders subject urban
neighborhoods to more rigorous property standards than they do suburban
neighborhoods, perhaps because of the greater age or architectural diversity of the
housing stock typically found in urban centers. Freddie Mac's guidelines do not
differentiate the treatment of older homes or homes with differing architectural styles,
nor do they rely on remaining economic life. Changes to the Uniform Residential
Appraisal report used by Freddie Mac that replace summary ratings of good, average,
fair or poor with a requirement for the appraiser to explain neighborhood conditions
and factors affecting marketability should help dispel any misconceptions lenders
have, but we are also using UNBOG to find ways to further communicate our
guidelines for properties in urban neighborhoods.

UNBOG has resulted in a number of recommendations that have inspired pilot
programs, which I will describe later in this testimony. Freddie Mac's pilot programs
will also be described in more detail in our report on the housing goals ("the report"),
to be filed next week.

Expanding the Seller/Servicer Network: The existing mortgage delivery system has
proven to be extremely effective. Nonetheless, Freddie Mac is committed to
improving the delivery of mortgage credit to potential borrowers who are unable,
through lack of knowledge, understanding or exposure, to make the mortgage system
work for them. We have a number of initiatives underway to resolve non-credit
related problems that may be preventing households from achieving homeownership.

Because Freddie Mac purchases loans originated by Seller/Servicers, any outreach
program we conduct relies heavily on their ability to solicit, underwrite and originate
housing loans. We are targeting marketing efforts toward those Seller/Servicers that
are outperforming their peers in terms of the quality, volume and innovation of
affordable lending in order to encourage and learn from their efforts. By doing so we
hope to increase the volume of lending they are able to do and to communicate their
successful strategies to other lenders.

We are spearheading efforts to reach lenders with whom we have not traditionally
done business, for example, community development corporations, that could qualify
as Freddie Mac Seller/Servicers. We have in fact recently added to our list of
Seller/Servicers South Shore Bank, a community development bank located in
Chicago. Moreover, we are also exploring ways to pair lenders that do not qualify as
Seller/Servicers with our existing Seller/Servicers.

By expanding our network of partners in the origination process, Freddie Mac hopes
to reach new borrowers. We hope to leverage the unique capacity and experience
of institutions such as community-based lenders to assist underserved borrowers in
overcoming unnecessary barriers to homeownership.

B. Pilot Programs

In addition to these activities designed to expand our mainstream business, Freddie
Mac is conducting pilot programs designed to increase our knowledge of underserved
markets and enhance lending to very low-, low- and moderate-income, central-city,
and rural households through our standard programs. Freddie Mac has a number of
pilots underway in this area, but for purposes of this testimony, we will focus on two
that address borrower counseling: down payment requirements and underwriting
guideline flexibility.

Borrower Counseling and Down Payment Requirements: Experience has shown that
the equity borrowers have in their homes is the most important determinant of
borrower defaults. For example, in Freddie Mac's experience, loans with only a 5
percent down payment default at a rate eight times that of loans with a 20 percent
down payment. FHA experience shows that defaults increase even more rapidly when
down payments fall below 5 percent.

Often potential borrowers can afford monthly mortgage payments but do not have the
funds to meet down-payment requirements. The key to addressing this problem ~
while continuing to minimize default risk - is an accurate assessment of the potential
borrowers' ability and willingness to continue to make mortgage payments.

Affordable Gold is our primary pilot program for testing flexible underwriting standards
and how they can be balanced by other enhancements such as counseling. In the
Affordable Gold pilot program, Freddie Mac lowers the up-front cash needed from
borrowers by allowing up to 2 percent of the down payment to come from a gift,
grant or unsecured secondary financing. Closing costs of up to 2 percent may also
come from these alternatives. As a result, the Affordable Gold pilot also experiments
with allowing lower down-payment requirements and broadening the sources of
income that can be used to meet payment-to-income requirements. We have also
increased underwriters' flexibility in determining whether the borrower's monthly
income is sufficient to make the mortgage payments.

A critical component of Affordable Gold is the requirement that borrowers receive
education or counseling, covering topics such as home selection, budgeting, loan
application and closing procedures. Through Affordable Gold we hope to learn the
appropriate balance between traditional methods of credit-risk control, such as
expense-to-income ratios and down payment requirements, and alternative controls,
such as counseling and underwriting by lenders experienced in low- and moderate-

income lending.

Maximizing Flexibility in Underwriting: Standard underwriting guidelines employ tools
such as the ratios of housing costs to borrower income and total debt to borrower
income to help the lender make underwriting decisions because standard guidelines
are designed to indicate the amount of mortgage debt that borrowers can safely
assume. Some borrowers, however, may be able to take on more debt without a
significant increase in risk, so lenders have flexibility to exceed the guidelines if
justified by other positive credit considerations.

One recently announced pilot gives lenders greater guidance in making those
judgments. Freddie Mac's Alternative Qualification pilot with Sears Mortgage
Corporation (a mortgage originator) and Mortgage Guaranty Insurance Corporation
("MGIC") (a private mortgage insurer) will develop and test a method for qualifying
low- and moderate-income loan applicants based upon their demonstrated ability to
make sustained debt payments. This pilot was initiated in Chicago and will be
expanded to additional areas.

The intent of this pilot is to create a useful, practical tool for lenders to use in making
judgments about an applicant's ability to pay allowing more low- and moderate-income
borrowers to become homeowners, without increasing default risk. Freddie Mac will
monitor the performance of mortgages underwritten under this alternative process and
compare performance to loans originated under more traditional underwriting methods.
The program will be reviewed to determine whether such methodology should be
incorporated into our underwriting process.

C. Other Initiatives

In our efforts to expand our standard programs, Freddie Mac is conducting other
special initiatives. Some combine our marketing strength with existing public-sector
programs. Others focus on intensive research. For example, we have and are
augmenting an extensive database with which to study underwriting guidelines and
their relationship to the likelihood and cost of mortgage default. Our research agenda
also includes the impact of economic and demographic trends on homeownership
rates and mortgage demand, particularly for very-low-, low- and moderate-income and
minority households. In addition, we have initiatives covering areas such as:
improving the effectiveness of government subsidies; and the underwriting
requirements for two-to-four-unit housing. Our interim report will discuss these in
more detail.

V. Multifamily Financing

The economic and demographic pressures on the housing system in general have been

strongly felt in the multifamily market. The deteriorating income profile of renters and
the rising costs of maintaining properties in inner cities, has produced a large and
growing gap between the cost of operating a rental unit and households' ability to
pay. While government subsidies are available to fill this gap, only a fraction of the
eligible population currently receives government assistance. As a result, five million
very-low-income households not receiving housing assistance have a "severe" housing
problem as defined by HUD, that is they either they pay over half of their incomes on
rent or live in a physically substandard unit. There is an urgent need, therefore, for
sound, well-maintained buildings that provide decent, safe, rental housing.

These market conditions challenge Freddie Mac to implement multifamily programs
with all due deliberation so that the programs will be both effective and sustainable.
Freddie Mac is strongly committed to addressing the need for decent, safe and
affordable rental housing through its various multifamily purchase programs and
targeted initiatives.

A. Lessons Learned

Freddie Mac suspended its multifamily mortgage purchase program in late fall 1990,
when serious delinquencies escalated, resulting in cumulative losses of more than
$500 million. At that time, multifamily mortgage loans represented only 3 percent of
Freddie Mac's portfolio, but generated almost one half of our total losses - a loss rate
1 7 times greater than for single-family mortgage loans. Moreover, multifamily
delinquencies and foreclosures had almost doubled in five years.

Many factors contributed to these losses. Some, like the 1986 tax law, declining
property values and rents, and over-building, were economic or industry conditions
over which we had no direct control. Other factors were, however, related to our
multifamily program. Two key lessons from Freddie Mac's experience are:

That sound multifamily financing requires well-designed programs, sufficient
staffing and quality local lenders that know their neighborhoods as business partners.

That when a multifamily loan defaults, it is the tenants and the communities that
suffer.

The knowledge that we have gained as a result of a thorough analysis of our past
multifamily experience has enabled us to design new multifamily programs that will
aid us in fulfilling our mission and meeting the housing goals.

B. Re-entry into Multifamily Market

When the decision was made to suspend our multifamily operations, we clearly stated

the conditions necessary for our re-entry into the market. They were: (1) to stabilize
our multifamily portfolio; (2) to develop programs, policies and procedures that reflect
the unique nature of multifamily lending; and (3) to hire staff with the expertise
necessary to make our programs successful. Freddie Mac has accomplished these
objectives.

Our new multifamily programs will:

1. Purchase mortgages for the purpose of acquisition, rehabilitation, and
refinance of existing properties.

2. Use state-of-the-art tools to underwrite, monitor and manage our multifamily
purchases.

3. Select lenders for their capital and their multifamily experience in local
markets.

Freddie Mac's redesigned multifamily programs will enable it to respond aggressively
to the challenge of financing decent and affordable housing for America's renters.
Meeting this challenge will enable us to fulfill our corporate mission and to meet the
housing goals set by HUD.

We expect to purchase $ 1 00 million in multifamily loans this year as we complete our
reentry into the market in Deceniber. Depending on economic and multifamily market
conditions, we expect the level of our participation in this market to be significantly
greater in the future.

C. Multifamily Strategy

Multifamily loans cannot be underwritten like single family loans. These loans must
be individually underwritten and are more similar to a business loan than to a single-
family mortgage loan. While two-thirds of new conventional single-family mortgages
originated are financed through the secondary market, only a small percentage of the
multifamily market is financed by this market. Because the secondary market for
multifamily loans is in an earlier developmental stage in comparison to the single-
family market access to capital markets through securitization is less readily available
for multifamily loans. Furthermore, the distinct characteristics of multifamily loans
create at present obstacles to standardization.

As with our single family strategy, many of our mortgage purchases under standard
multifamily programs will qualify toward the housing goals. We will also develop pilot
programs, especially to for very-low-income renters targeted under the special
affordable goal. We will incorporate successful features of pilot programs into our
standard programs wherever feasible, but we recognize that a more tailored approach

will be needed for multifamily market.

I would now like to describe briefly the components of our new cash multifamily
purchase, the structured transaction program and our refinancing programs. Then I
will describe one of our more important pilots win conjunction with the AFL-CIO; a
program which you, Mr. Chairman, were instrumental in helping to develop earlier this
year through the enactment of H.R. 2668.

Cash Program: Through this program Freddie Mac will purchase newly originated
multifamily mortgages from Program Plus Seller/Servicers in exchange for cash.
Freddie Mac is currently conducting a limited cash program, and we plan to fully re-
open our multifamily cash purchase window by the end of December 1993. This
program will include purchases of small ($350,000 to $1 million) loans.

Structured Transactions Program: Through this structured transactions program,
Freddie Mac purchases multifamily mortgages from approved lenders in exchange for
Freddie Mac multifamily PCs. This program was introduced in October 1993. By
including both new and seasoned mortgages, this program facilitates the purchase of
portfolios existing pools of mortgages from approved institutions. This program
provides a source of liquidity so that lenders who have specialized in multifamily
lending and have held the loans in their portfolios can continue and expand their
activities.

Refinance Programs: Refinancing existing multifamily mortgages allows borrowers to
reduce their debt burdens alleviating upward pressure on rents or permitting more of
the cash flow to be used to maintain the properties. Cash from the refinancing above
what is needed to pay off the original loan is available for property improvements and
repairs or to establish replacement and repair escrow accounts.

Freddie Mac's Defensive Refinance Program, begun in July 1992, is designed to
provide low-cost refinancing for mortgages held in our portfolio that are in danger of
defaulting. The program allows lenders to provide new mortgage financing for up to
105 percent of the outstanding principal balance of the existing loan. Any excess
cash from the refinancing must be reinvested in the property, for example to pay
closing costs or to establish replacement and repair escrow accounts.

Freddie Mac's Quality Refinance Program, begun in February 1 993, provides refinance
mortgages for high-quality mortgages in our portfolio. This program allows lenders
to provide new mortgage financing up to 125 percent of the outstanding mortgage
principal balance of the existing loan. As in the Defensive Refinance Program, excess
cash from the refinancing must be reinvested in the property.

In 1 993, Freddie Mac purchased over $ 1 1 million of multifamily mortgages through
the refinance program. More than 50 percent of these mortgages were in central

cities, and more than 95 percent were affordable to low- and moderate-income
renters.

D. Pilot Programs

As with our single-family programs, multifamily pilots will be used to experiment and
learn about underserved markets, with the aim of developing financing innovations
that can be used on a broader scale in the future. Currently Freddie Mac has a
number of multifamily pilot programs, designed to address the following: new
partnerships, forward commitments, rehabilitation lending, disposition of real estate
owned ("REO") and leveraging public subsidies. Freddie Mac will also use pilot
programs to expand non-traditional Seller/Servicers' access to the secondary market.
By initiating pilots with a range of non-traditional Seller/Servicers, such as housing
finance agencies and community development and nonprofit organizations, we hope
to expand the delivery system through which these lenders can access the secondary
market. As we work to purchase mortgages that will meet the special affordable
housing goal, we will seek to expand the availability of secondary market funds to
these lenders.

AFL-CIO Pilot: Illustrative of Freddie Mac's strategy in using pilot programs to develop
innovative financing techniques and to develop new partnerships is the pilot program
between Freddie Mac and the AFL-CIO Housing Investment Trust announced on
September 6, 1993. This pilot will fund up to $200 million in rehabilitation and new
construction mortgages in 30 cities nationwide over the next 36 months, including
properties with rents affordable to households earning at or below 60 percent of the
area median income.

Before construction or rehabilitation begins, Freddie Mac provides a forward
commitment to purchase the permanent mortgages once the rehabilitation or
construction is completed. Freddie Mac buys the permanent mortgages in a swap
transaction, that is in exchange for the permanent mortgages, Freddie Mac provides
Freddie Mac PCs to the AFL-CIO Trust. These PCs are expected to be held by the
AFL-CIO Trust as investments but they are more liquid than the underlying whole
mortgages, are easily liquified should the Trust's investment needs change.

The pilot creates a partnership between state and local housing finance agencies and
Freddie Mac that shares the credit risk of these mortgages in a way that takes
advantage of each participant's relative strengths.

E. Freddie Mac/HUD Risk-Sharing

On October 28, 1 993, Freddie Mac submitted a report to HUD and Congress to report
our findings on an assessment of alternative methods of risk sharing. As part of this
assessment, Freddie Mac began discussions with HUD to design and implement a joint

risk-sharing program for multifamily housing. These discussions are continuing so that
the details of this pilot program have not been finalized. This pilot is intended to
provide rehabilitation financing, including financing for properties in enterprise
communities and empowerment zones. Risk-sharing is an opportunity for HUD and
Freddie Mac to bring their respective strengths together to expand the supply of
affordable rental housing and to revitalize communities.

For example, Freddie Mac has the capability of providing: expertise that results in the
proper program design, a sufficient number of experienced staff, and appropriate
management and reporting controls, all of which are needed for a successful program.
Freddie Mac and its Seller/Servicers bring the expertise needed to underwrite
individual multifamily properties and to manage the assets over time. Sound
underwriting and asset management will produce high-quality loans and manage the
government's and Freddie Mac's risk exposure.

HUD has the unique ability to provide and coordinate the delivery of federal subsidies.
In addition, because the federal government is better diversified than any private-
sector entity, it is better able to provide insurance against very unlikely but very costly
risks that are difficult to anticipate. Local governments could also be risk-sharing
partners in this pilot program.

Loans purchased under this pilot would provide attractive pricing to the borrowers and
reasonable profit to Freddie Mac. These loans would help meet the housing goals,
particularly the special affordable housing goal.

VI. Conclusion

Mr. Chairman, I want to thank you again for the opportunity to testify on behalf of
Freddie Mac on the success of the secondary mortgage market and our commitment
to build on it and to meet the housing goals. We look forward to succeeding in our
efforts to expand access to housing through the secondary market.

(Mr. Brendsel)

RESPONSE TO QUESTION FROM CONGRESSMAN MEL WATT

RE REFINANCING

NOVEMBER 19, 1993 GSE HEARING

Freddie Mac has examined Home Mortgate Disclosure Act data for 1992, as
well as our own data for 1 993 (through September 1 993) and have found no
statistically significant difference between the minority share of home
purchases versus refinance loans.

(Mr. Brendsel)

RESPONSE TO QUESTION FROM CONGRESSMAN MEL WATT RE

DIVERSITY OF WORK FORCE

NOVEMBER 19, 1993 GSE HEARING

Freddie Mac is committed to bringing diversity to its workforce, and in fact
the mission statement of our employment office is ultimately to achieve a
balanced, diverse work force at all levels, and to have Freddie Mac known
as an organization where diversity is valued. To this end, we have
established several programs and activities that are designed to expand
Freddie Mac's diverse population of employees.

Since December 31, 1989, while the overall work force of the corporation
grew 50 percent, the number of minorities grew by 63 percent -- an increase
of 253 employees. Furthermore, the growth of the minority workforce for
management level and above has increased by 74 percent during this same
time period.

Among Freddie Mac Officers, almost 7 percent are minorities, which is up
from 2 percent from early 1992. Additionally, 21 percent of our officers are
women. In our management group below officer level, 50 percent are
women and 1 1 percent are minorities.

Freddie Mac is pleased with the results of our efforts to promote greater
work force diversity and we want to do more. In that regard, I will mention
some of our policies and programs that serve to increase our diversity.

Freddie Mac's goal is to have at least one woman, minority or handicapped
job applicant presented for 80 percent of all job requisitions. For 1993, we
have exceeded this goal.

Additionally, our out-reach efforts include minority job fairs sponsored by a
variety of minority institutions including the Black Human Resources
Network. Freddie Mac also uses a number of search and recruitment firms
when recruiting new employees. Many of the firms have been retained
specifically because they have a reputation for finding diverse candidates.
In all cases, however, Freddie Mac requires that minorities and women be
presented on the candidate slate submitted by the recruiting firm. These
efforts help us assure greater access to potential candidates, particularly at
the top management levels.

To increase our outreach and achieve diversification at all levels of the
corporation, we also have several programs targeted for entry-level jobs.
For example, we are committed to take five students from INROADS, which
places minorities, who are going to college, in companies for four
consecutive summers. Additionally, Freddie Mac concentrates on
universities with large minority populations for its own campus recruiting for
jobs related to computer sciences and information services. Finally, Freddie
Mac has an active internship program that requires that at least 50 percent
of the intems to be minorities or women.

statement for

James A. Johnson

Chairman euid Chief Executive Officer

Feumie Mae

November 19, 1993

Mr. Chairman and Members of the Committee.

Thank you for holding this hearing and for giving me this
opportunity to appear before you. We at Fannie Mae deeply
appreciate the Committee's thoughtful leadership on housing and
housing finance in America, and your lifelong dedication, Mr.
Chairman, to providing decent, safe and affordable housing for
every American family.

Mr. Chairman, when Leland Brendsel and I appeared before this
Committee on May 7, 1992, you set before us some very important
challenges. As you have noted many times, while the housing
finance system in this country works very well for the vast
majority of Americans, significant barriers remain for many people.

Discrimination denies mortgage credit to minorities who are
willing and able to buy a home.

Consumers lack the information they need to deal with the
complexities of the mortgage finance system.

And high closing costs and down payment requirements make it
impossible for many people who have steady incomes and good
credit histories to obtain mortgage credit .

Page 2

You challenged us to provide leadership to help break down these
barriers. We eagerly accept and embrace the challenge. Fannie Mae
is dedicated to making the housing finance system work for all
Americans, regardless of race or economic circumstance, and we are
taking action to achieve that goal. We have committed ourselves to
eliminate every inefficiency, fight every trace of discrimination,
build every possible economic bridge, and break down all artificial
barriers in the housing finance system that stand in the way of
affordable homeownership for families of modest means.

1993 has been a record breaking year for housing and for Fannie
Mae. Our company's total business volume for 1993 will be over
$300 billion, which will help finance homes for more than 3 million
families. This exceeds last year's all-time volume record of $257
billion and 2.9 million families served. In just the past two
years, Fannie Mae alone has done as much business as our nation's
entire housing finance system handled in the first four years of
the 1980s.

Refinancing, due to lower interest rates, is responsible for over
60 percent of our 1993 business. The ability of homeowners to
refinance their mortgages has had a very positive impact on our
economy. In fact, since 1991, homeowners have saved $30 billion in
mortgage payments due to refinancing and the downward adjustment of
adjustable-rate mortgages.

Page 3

I am pleased to announce today that through a change in Fannie Mae
policy we will extend the benefits of refinancing to thousands of
additional families. Because of a decline in housing prices in a
few parts of the country, some families have been unable to take
advantage of lower interest rates through refinancing, because the
equity in their homes has declined. To help these people lower
their mortgage payments, Fannie Mae will allow the homeowners whose
loans we hold to refinance with loan to value ratios of up to 95
percent. We believe this will be an enormous benefit to consumers,
especially those living in areas where home prices have declined.

As you know, our strong commitment to affordable housing took on an
added dimension when Congress passed the Federal Housing
Enterprises Financial Safety and Soundness Act last year. The new
law reaffirmed Fannie Mae's role in our nation's housing finance
system, and underscored the important role that Fannie Mae has in
meeting the national goal of expanding decent, safe and affordable
housing and homeownership opportunities.

Page 4

We are moving ahead effectively to meet these goals because we have
built a solid foundation in our affordable housing effort. In March
1991 -- within six weeks of assuming the chairmanship of Fannie Mae
-- I challenged my fellow employees to provide $10 billion of
financing during the following four years for low- and moderate-
income families and others with special needs. This past August we
achieved that goal -- 16 months ahead of schedule. As a result,
180,000 families are in homes of their own or in decent rental
housing they could not otherwise afford. Through this $10 billion
"Opening Doors to Affordable Housing" initiative, the establishment
of our National Housing Impact Division, the 1,300 partnerships
we've formed with lenders, state and local governments, nonprofit
groups and others, and all the things we've done to build on those
efforts, we have taken our impact on affordable housing to an
entirely new level .

Specifically:

We made our Community Home Buyers program the industry
standard in providing low down payment mortgages on
flexible terms to lower income families and to those
living in areas that have not had full access to credit .

Page 5

We developed FannieMaps --a demographic data and mapping
service to help lenders identify underserved areas with
concentrations of low- and moderate -income and minority
families.

We formed an effective financing partnership with the
Farmers Home Administration under its Section 502 Rural
Housing Loan program to provide no down payment loans in
rural areas .

We created a secondary market for Home Equity Conversion
Mortgages, which allow senior citizens to tap the equity
in their homes through FHA insurance programs .

We developed a flexible line of products to provide
lending for home renovation, including HomeStyle and the
Community Home Improvement Mortgage Loan.

We began financing group homes that house the
developmentally disabled. We've made other investments
to help house those who suffer from AIDS or mental
illness.

Page 6

We launched our Employer Assisted Housing program, called
Magnet, which helps employers recruit and retain workers
in communities with high housing costs or tight labor
markets.

We expanded our multifamily financing effort, which will
fund about $5 billion in multifamily loans this year.

We have increased our investments in low- income housing
tax credits, to $350 million in over 130 projects.

We created a Housing Impact Fund to make short-term loans
to ventures that have significant impact on affordable
housing, but fall outside our standard lines of business.

We launched a new FannieNeighbors program, through which
we've made all residents of central cities --as well as
those living in lower income and minority neighborhoods
-- eligible for our flexible Community Home Buyers
program .

Page 7

We've created a consumer outreach program that will
provide millions of families information this year about
affordable loans, and lists of lenders and counselors in
their areas that can help them qualify. By year-end we
will have helped more than 100,000 people who have called
our toll free telephone number in response to this
outreach program.

We've held home buyer fairs in four cities at which
nearly 20,000 people were able to visit with lenders,
counseling agencies, and attend panels to learn more
about the home buying process .

We've begun a program of central city partnerships with
the cities of Oakland and Cleveland, and will have a
total of six additional partnerships in place by year-
end. These partnerships use our existing affordable
housing products -- and create new ones -- to address
housing priorities that the cities set themselves.

We've purchased additional portfolios of existing
affordable housing loans, making it easier for lenders to
originate new ones .

Page 8

We've created an MRB Express product to reduce costs for
housing finance agencies in raising funds through
mortgage revenue bonds to finance home loans at below-
market interest rates .

And finally, as part of the process of extending mortgage credit to
all eligible borrowers, we committed ourselves to fight every day
to help eliminate all vestiges of discrimination that could deny
homeownership to someone on the basis of race or ethnic background.

We've made significant changes to our underwriting
guidelines to underscore our commitment to fight
discrimination .

We've made it clear that we will not tolerate redlining
on the part of any lender -- and we will not permit our
guidelines to be the excuse for it.

We published a new guide for lenders on Underwriting Low-
and Moderate -Income Borrowers, to assure that lenders are
aware of all the flexibilities we have built into our
underwriting guidelines.

Page 9

We held 15 seminars around the country to give lenders
hands-on experience in applying these flexible guidelines
to make sure they know we want them to be used.

We've instituted a second management level review as part
of our process for reviewing a sample of the loans we
purchase to assure that they are conforming to our
guidelines .

We ' ve permitted our lowest down payment loans to be made
in markets with declining property values, where a lender
is participating in a public-private reinvestment effort.

We've dedicated ourselves to increasing the diversity of
our own workforce, in order to serve minority borrowers
more effectively and ensure that all levels of Fannie Mae
management are dedicated and responsive to increasing
opportunities for minorities in all aspects of our
business .

Page 10

These initiatives have positioned us well to achieve all our
affordable housing goals. As this Committee knows, the 1992 Act
established a new framework for reviewing our affordable housing
activities, beginning with a two-year transitional period. HUD
published implementing regulations on October 13 to guide our
activities for 1993 and 1994. These regulations assign us three
goals for this year and next. First, 30 percent of our business in
each year is to provide housing for low- and moderate -income
families. Second, during this two year transition period, we have
a special affordable housing goal -- for low- income families in
low- income areas and for very low- income families -- of $2 billion
of mortgage purchases above a 1992 baseline. Half of these
purchases are supposed to be mortgages on single- family houses and
half are to support multifamily housing. Third, our goals for
central city purchases are 28 percent for 1993 and 30 percent for
1994.

After this interim period, the statute envisages a number of
changes. For example, the special affordable housing goal will be
changed to not less than 1 percent of the dollar amount of
purchases in the previous year. The current central cities goal is
supposed to be expanded to address "housing located in central
cities, rural areas, and other underserved areas."

Page 11

I think the dynamic process that Congress established is
particularly useful, because it gives all of us -- the companies,
HUD and the Congress -- the opportvinity to learn how to focus our
business activities, and their regulation, most effectively.
Furthermore, the process recognizes that the demands and conditions
of the housing market are always changing.

I would like to give you a progress report on our work to date. I
am very pleased to tell you that we will substantially exceed the
goal that 3 percent of our business benefit families with low- and
moderate - incomes . In 1993, we project that 34 percent of our
conventional business will help finance homes for nearly 1 million
families with low- and moderate -incomes -- about 220,000 more than
we served in 1992.

We also believe we are well on our way to meeting our special
affordable housing goal. There is more uncertainty in this area
because the final regulations issued by HUD in October included
some significant changes from the draft regulations concerning
counting conventions and exclusions. In particular, the new
regulations require us to recalculate the 1992 baseline from which
we will measure the $2 billion goal.

Page 12

I'm also happy to report that we have made very significant
progress in our effort to provide additional financing in central
cities in 1993. We project that approximately 840,000 families
living in central cities will be served this year, an increase of
about 180,000 families over 1992. Mr. Chairman, we can't be sure
at this time if we will meet the 1993 regulatory goal of 28
percent, but we know that we are very close.

There are several reasons why we aren't yet sure what our final
central city percentage will be. First, calculation of the
percentage depends on the total business volume for the year; that
number is driven by a refinancing boom which is continuing today.
Since refinancing is less prevalent in central cities, the year-end
business totals for suburban and other areas will have a large
impact on the percentage. Second, we didn't know the exact
components of the goal we have been shooting for until HUD issued
the counting conventions in October. And third, the final HUD
regulations require us to use a 1993 list of central cities, a
change from the draft regulations, which permitted the use of a
list in effect earlier. We have had to ask the Census Bureau to
produce a new tape that will enable us to figure out how to
allocate purchases from census tracts that straddle the borders of
the central cities on this revised list; until next month, when we
expect to receive the tape from the Census Bureau, we cannot score
our central city purchases.

Page 13

While it is not a legislated percent of business goal, I would also
like to report to you on our financing activity for minority
families. In 1993 we project that over 13 percent of our
conventional single-family business will serve more than 320,000
minority households, an increase of more than 73,000 over 1992.

Based on our "Opening Doors to Affordable Housing" experience, and
now a year of operating under the new housing goals, we've learned
a number of important lessons .

First, in outreach efforts, we've learned that there is an enormous
hunger for information about home buying opportunities
particularly among lower income and minority families for whom the
process is too often a mystery.

Page 14

Second, we've learned that information can be power -- people will
act on what they know and move through the door of homeownership
when it is opened to them.

Third, we've learned that working directly with cities can leverage
our resources and theirs, and make it easier for each of us to
reach underserved communities.

Fourth, we've learned that the new data collection requirements in
the Act bring great benefits. The additional data we're gathering
from lenders about the families for whom we are financing loans
will help us determine how to better reach them in the future.

Fifth, our experience so far with the percentage of business goals
may have revealed some of the weaknesses of relying too much on
them as precise measures of affordable housing service. Perhaps
the most basic problem is that we have to measure the targeted
group (the numerator of the percentage) against a volume of total
business (the denominator) that is unknown and highly variable.
This year's refinancing waves provide a stark example of how easy
it is for our targeted business efforts to be thrown off by other
market demands that are also important for American home buyers and
the economy as a whole.

Page 15

As we learn from the experience of the transitional period that
Congress established, it may be advisable to consider focusing on
other measures of our activity -- such as year-over-year
comparisons, a rolling average, or the absolute numbers of
households served in the targeted group. We may also want to focus
on qualitative efforts that are highly important for certain groups
or locations but which do not rack up big numbers, like programs
that focus on specific geographic areas, population groups, or
people with special needs. It would be unfortunate, in my view, if
strict percentage of business goals force us into a measurement
straight jacket that limits our incentives to serve as many low-,
moderate-, and middle-income Americans as possible in as many ways
as possible.

Sixth, as we try to expand our housing impact we've learned that we
must, of course, take into account the important role that the
Federal Housing Administration plays. The limitation on the size
of the mortgages Fannie Mae can purchase and the effect of income
and central cities housing goals mean that we are often seeking to
serve many of the same families that FHA has traditionally served.

Page 16

We would like to develop a more effective partnership with FHA to
serve low- and moderate -income families, particularly in central
cities. We have been working with FHA on a risk sharing program
for multifamily projects as called for by the Congress. We have
also had discussions concerning extending the risk sharing concept
to single-family loans. We believe that significant benefits can
accrue to low- and moderate -income borrowers if the efficiencies
and risk taking abilities of the conventional market can be married
with the credit support of FHA. Any examination of the future of
the housing goals should take explicit account of the role of FHA
in serving low- and moderate -income families in central cities.

Mr. Chairman, I'd also like to share with you today some additional
exciting initiatives that we believe will provide breakthroughs in
housing finance to make the system work better for all Americans.
These are steps that go far beyond what we must do to meet the
legislative goals.

I referred earlier to the aggressive "outreach" campaign we have
underway, to educate consumers and help put them on a path to
homeownership . We believe there are millions of consumers who are
able to afford a mortgage and want to own a home, but have not yet
done so. We are very committed to reaching out to those people and
providing them with the information, counseling, and help they need
to achieve homeownership.

Page 17

Our technology innovations are another example. We believe that
inadequate attention has been given to the impact of closing costs
as a barrier to homeownership . Last year homeowners paid $27
billion in finance-related closing costs for an average of $3,000
each. These costs include mortgage origination, title search and
insurance, mortgage insurance, and settlement charges. A $1,000
reduction in these costs at the closing table would have saved
Fannie Mae's low- and moderate -income borrowers $1 billion this
year. That's the equivalent of a $1 billion homeowner's assistance
program. Looked at another way, it would be the same as a 20
percent reduction in the amount of money a first time home buyer
would need for a minimum down payment on a house with a 95 percent
mortgage .

Fannie Mae is committed to reducing this barrier to mortgage credit
by reducing closing costs by at least $1,000. We believe that the
introduction of new technology into the mortgage finance industry
will help cut costs and therefore reduce closing charges.

Page 18

We have begun by streamlining the process by which mortgage lenders
do business with the secondary market. We have eliminated millions
of pages of paper through our Momet electronic connection to over
2,800 lenders. Our new Desktop Trader allows customers to do
billions of dollars of transactions with us through their desktop
computer without the need to talk to anyone at Fannie Mae and
without generating any paperwork.

We are also working on technologies that will reduce the cost of
originating mortgages. We are developing systems to cut the cost
to process mortgage applications, called the Originator's
Assistant, and to cut the cost of underwriting through our Desktop
Underwriter. We are working on other industry innovations that
will cut costs such as electronic data interchange standards, a
mortgage document clearinghouse, and improved cash management
mechanisms .

We have also supported efforts by others in the industry to reduce
costs for home buyers. In particular, we have supported the
efforts of the mortgage insurance industry to reduce the amount of
the mortgage insurance premium due at the closing table . And we
will encourage others to reexamine practices that burden
homeownership by increasing closing costs.

Page 19

Our investments in technology are very important to our ability to
respond to the reality of a rapidly changing and very competitive
marketplace. We strongly believe they will increase access to
mortgage credit for thousands of low- and moderate- income families.
I would be delighted if at the appropriate time in the future we
could arrange a demonstration of our new technologies for the
Committee.

We also look forward to working closely with our new regulator, the
Director of the Office of Federal Housing Enterprises Oversight,
Aida Alvarez. This Committee has had a significant, positive
impact on Fannie Mae by modernizing our capital standards and our
regulatory structure. We look forward to a positive and productive
relationship with our regulator, and to working with her as she
assembles her team and develops a risk-based capital standard.

Mr. Chairman, I know you and the members of this Committee share
our excitement about all these initiatives, and the remarkable
impact they can have on breaking down the barriers to homeownership
and affordable housing posed by discrimination, cost, and lack of
information. We will continue to work with Congress, with HUD, and
with any partner who shares our commitment to making the housing
finance system work for all Americans.

Page 20

Thank you very much for the opportunity to appear before you and
discuss Fannie Mae's strong commitment to affordable housing
finance. I'd be happy to respond to your questions.

Statement of James A. Johnson
November 19, 1993

Response to question from Congressman Watt
(regarding refinancing)

Regarding our purchase of loans to minority families, as of the end of October 1993, 13.15
percent of our total purchases for 1993, or 235,839 loans, were made to minority families.
Minority families refinanced at a slightly lower rate than non-minorities, accounting for
13.11 percent of our refinancings; loans to minority families constituted a larger portion,
13.22 percent, of our purchase money business.

Statement of James A. Johnson

November 19, 1993

Response to question from Congressman Watt

(regarding diversity of work force)

Fannie Mae has made workforce diversity a priority over the past five years. It is our goal
to have a workforce that mirrors at all levels our society as a whole. As a result,
representation of minorities and women in management positions now approaches their
profwrtion in the general population. The changes in the composition of our workforce over
the last five years indicate significant progress. Among directors, who are the front-line
managers responsible for running all aspects of the Company's operations, in 1988 minorities
held 6.5 percent of the positions and women 34 percent. As of November 19,1993,
minorities at the director level increased to 19.3 percent and women increased to 39.3
percent. This pattern is repeated among the officers of the company. In 1988, 5 percent of
our officers were minorities and 25 percent of our officers were female. As of November
19, 1993, minorities comprise 11.7 percent of the total number of officers and women
comprise 33.3 percent of the total.

(MR. JOHNSOJ)

FANNIE MAE INTERNATIONAL ACTIVITIES

Fannie Mae constantly seeks innovative ways to fund housing for American families.
Among these innovations, Fannie Mae engages in overseas initiatives to support its funding
of domestic housing finance. These international activities focus on two areas: raising funds
through marketing debt, equity and mortgage-backed securities to international investors; and
providing advisory services to sovereign nations.

Fannie Mae's international financial marketing strategy was developed to supplement Fannie
Mae's domestic efforts to supply capital financing for the nation's housing activities. Fannie
Mae's international financial marketing strategy helps Fannie Mae fulfill its congressionally
established mission to provide affordable housing finance to low-, moderate-, and middle-
income Americans.

Fannie Mae International Marketing Activities

Prior to 1984, Fannie Mae officials traveled overseas periodically to discuss funding
opportunities with key investors. Fannie Mae's Chairman and CEO and its Chief Financial
Officer have made annual trips to Europe and Asia, since 1984 and 1985 respectively, to
meet with investors and government officials.

These international marketing efforts, which supplement efforts to raise capital in the
domestic markets, result in increased demand for the Company's debt and mortgage-related
products, both of which benefit American consumers. International investment in Fannie
Mae debt obligations increases liquidity in the American mortgage finance system. Increased
liquidity lowers Fannie Mae's debt costs, and those reduced costs are passed on to the
American homeowner in the form of lower mortgage interest rates. Similarly, international
investment in Fannie Mae mortgage-backed securities increases the supply of capital
financing available for United States housing activities, which holds down the cost of
domestic housing finance.

Fannie Mae International Advisory Services

Fannie Mae's contribution to the integrity, efficiency and effectiveness of the U.S. housing
finance system also makes it the starting point for virtually all serious research on housing
finance. As more countries strive to increase the affordability and availability of housing to
larger segments of their populations, they look to Fannie Mae's experience as a guide in
developing a housing finance system based on efficient market mechanisms and insulated
from political risk. Fannie Mae's contribution to the affordability and availability of housing
for millions of Americans over 56 years is a compelling model for many foreign nations
seeking to develop their own private housing finance facilities.

Fannie Mae has received requests for advice and information about housing finance from
foreign governments, international organizations, Congressional offices, and the Executive
Branch. These requests have increased in the last few years due to the greater awareness of
Fannie Mae in the international community, and to an expanded emphasis by the Department
of State, the Treasury, the Department of Housing and Urban Development, the Department
of Commerce, the Agency for International Development (AID), and the Congress on using
private companies to supply technical assistance to foreign countries. The Executive Branch
is also seeking to involve U.S. firms in order to increase opportunity for American investors
and expand trade. Many Fannie Mae projects were initiated at the request of Congressional
or Executive Branch officials.

In 1990, Fannie Mae formalized its international counseling program by creating a small,
self-sustaining unit offering housing advisory services to international organizations and
foreign countries. In almost all cases, the services are funded directly or indirectly by either
the United States Government (through AID) or by international development agencies such
as The World Bank. AID administers U.S. economic assistance programs that promote
America's national interests: building democracies, encouraging free market economics,
fostering development, and increasing humanitarian support. The World Bank promotes
economic and social progress in developing nations by lending funds, providing advice, and
serving as a catalyst to stimulate outside investments. The World Bank's resources come
primarily from funds raised in the world capital markets, its retained earnings, and
repayments on its loans. The United States is the largest subscriber to the World Bank.

Fannie Mae's approach to advisory assistance marries the Company's capabilities with the
needs of the entity making the request; the form of assistance varies with each project, and
new forms are constantly being considered. Completed international advisory projects
include training in Russia, seminars in France, Portugal, Morocco and Taiwan, a feasibility
study in Turkey and program design in Israel. Closer to home, Fannie Mae has provided an
evaluation study for Argentina and strategic analysis of major issues in Mexico. Ongoing
Fannie Mae international advisory programs in Eastern Europe offer advice, program
development, strategic development, operational implementation and training to create and
market housing finance systems in Poland, Hungary, Bulgaria, and the Czech and Slovak
Republics. Projects in a number of other countries, including Australia, India and the
Philippines, are under active consideration. In Washington, Fannie Mae offers seminars and
on-going advisory services on a short-term basis to officials from countries including
Australia, Austria, Belgium, China, Colombia, Costa Rica, Finland, Ghana, India, Indonesia,
Japan, Jamaica, Kenya, Korea, Malaysia, Nigeria, Pakistan, Singapore, Spain, South Africa,
Sweden, Switzerland, Thailand, the United Kingdom, and Zimbabwe. The goal of all these
projects is to strengthen social and economic systems through greater affordability and
availability of housing; the means is the creation or enhancement of market-oriented private
housing finance systems.

Fannie Mae believes that its modest foreign advisory services have helped promote U.S.
Government objectives. In a small but practical way, Fannie Mae has helped to expand
support for market economies and democracy by fostering concrete projects that help average
citizens. In many of these nations, governments are striving to demonstrate that democracy
can deliver the "goods" as well as freedom. Housing is particularly important because it
helps supply the "social infrastructure" for economic reformers; it helps develop property
holders with an interest in reforms. Available housing is critical for labor mobility as old,
inefficient plants close down and new jobs are created in different locations.

The heightened international profile afforded Fannie Mae by these advisory activities has
contributed to the effectiveness of its efforts to generate funding overseas to support domestic
housing. Fannie Mae's international activities are important components of its success in
reducing costs, handling extraordinary volumes, and increasing availability of housing for
American families.

'Mlto/iiico

. nuxiMexx-

S.A. Business Journal

PUBLISHED NOVEMBER 5. 1993

f?0

Laredo National
investors seeking
Mexican charter

ItUNOULOWE

Some Mexican invescors in Laredo
National Bank are seeking regulatory
approval to charier a new bank in Mexi-
co, according to Gary Jacobs, president
of the Laredo-based bank.

Jacobs says that some of the same
owners of the Laredo bank are raising
SIOO miUion in new capital 10 charter
Banco Interacciones, a bank which will
focus on housing and Mexico's infras-
tructure. The bank is expected to open in
March.

Jacobs declined to name the investors.
Laredo National Bank is privately held.

In a separate development, some of
Laredo National Bank's Mexican inves-
tors are buying out their European inves-
tors Jacobs says that those acquiring
additional stock already have an interest
in the bank, and the acquisition will not
change who controls the bank. "The
same control group still controls Laredo
(National Bank)," he says. However, the
acquisition by Mexican investors increas-
es the bank's ties with Mexico. "It gives
us a much more focused strategic plan
with Mexico," Jacobs says.

According to the Federal Reserve Bank
of Dallas, Carlos Hank Rhon of Lomas
Virreyes, Mexico, has applied to acquire
controlling interest in Laredo Naiional
Bancshares Inc. The holding company
owns Laredo National Bank and South
Texas National Bank of Laredo.

Incus Co. Ltd. and Kline Investment
Co. Ltd., both of Tortola in the British
Virgin Islands, have applied to acquire
more additional shares in the holding
company, according to the Federal
Reservf . A spokesman for the Federal
Reserve 'declined to name the owners of
the two Virgin Island entities.

I^USIIMESSI

> T>- L..*^ N.u..^ ft^^ ^^ jy^ ,,„ ^_

PuiiSMEO ■ovEMm 1, mj /! /S

Window of opportunity

Mexico seeks Fannie Mae to help develop its young housing market

tlUHDULlWI

There's an opportunity emerging in
Mexico that could turn into a jewel Tor
some U.S. mortgage and investment
companies — the housing market.

Meiico's government plans to intro-
duce legislation within the next month to
operate a secondary market in its coun-
try. And the government is seeking the
United States' most experienced second-
a ry market provider. Fannie Mae, as a
pannef.

"They have the experience. We don't."
j j^ntnnin Jn""''^ "'iCf, lli'^*^'"^ general
for housing finance in Mexico, says
about the Federal National Mortgage
Association (Fannie Mae). "We want to
follow in their steps. We want to learn
from their mistakes."

While no decisions have been rinalized,
Gonzalez Karg says several options are '
under discussion. One is an investment to
he tp«df hv Fannie Mae in the entity th e
g overnment would charier to operate the
se condary market Whatever its role.
Gonzalez Karg says that Mexico would
like Fannie Mae to have some degree of
input. "The important thing is to have
them on our board," he says.

For its part, Fannie Mae officials
would only say they are in frequent con-
tact with the Mexican government about
a secondary market operation. "We are
very, very flattered and very appreciative
that they came to the conclusion thai the
people to learn from was Fannie Mae,"
says Beth Marcus, managing director of
inlernaiional housing finance services.
"We have let them know we'd be happy
to be of assistance to them."

Industry officials speculate that Fannie
i»t is very interested in an active role in
fMeiico Hnwfver , ji is likely examining
it s charter to deier mTne- wtrai mltJ LIZib._
[ have. wfrcus _says tnatihe comB tpy,
which was chanerea oy the /ederalgov-
emment in 1938, has no plans itself to
buy and sell Mexican loans. Nor is it con-
sidering a charter change.

Whatever role ultimately develops.
Fannie Mae's experience in mortgage
lending far outpaces Mexico's. The com-
pany, which has a more than S 2 billion
unus«d line of credit from_ ili_
' government, buys loans from mortgage
lenders, pools and securitizes them, and
sells them to investors.

Fannie Mae has SI92 billion in assets
and J465 billion in mortgage-backed
securities outstanding.

But analysis and observers say that
Mexico's housing market could be like a
g oldmine compared to the United Staler
"We have a relatively mature housing
market." says Gary Jacobs, president of
Laredo National Bank. "Here's a neigh-
bor where there's 25 years of growth."

In fact, according to a copyrighted
story by Bloomberg Business News of
New York, analysts say Mexico is short 6

million dwellings. Moreover, the story
says analysts estimate that while mort-
gage loans represent 68 percent of the
U.S. gross domestic product, they only
represent 5.4 percent of Mexico's.

For US. lenders, many of them which
currently deal with Fannie Mae, it is a
potential new field of business — consult-
ing. Some lenders, like BancPlus Mort-
gage Corp.. are eyeing those
opponunities as potential money-makers
when local markets run dry.

"At some point, even if rates (in the
U.S.) stay where they are, we're going to
have to look to other areas for growth,"
says John McMurray, senior vice presi-
dent at BancPlus. "(Mexico's) very much
an emerging market."

Such opportunities have occurred with-
out direct investments from Fannie Mae.
The passage of the North American
Free Trade Agreement would also likely
enhance opponunities, since more U.S.
companies could set up operations in
Mexico. But even now. Mexican lenders ;
are pursuing the mortgage market, with '
some increased benefits to U.S. com-
panies.
Some Mexican investors who hold an
[interest i n Laredo National Bank ha ve
ffa pplied for a new bank charter in ^j exi■
[co. Jacobs says that the Mexican bank
[■plans on focusing its lending cffnns nn

I housing and infrastructure, which could
Luliimaicly increase opponunities for the
'^U.S. bank.

For years, lack of lendable funds and
high inflation rates meant that the only
Mexicans who could buy homes, for the
most pan, were those who could pay
cash. "The market was essentially non-

existent." says Richard Bello. an analyst
with Morgan Stanley & Co. of New
York.

But Gonzalez Karg says that this year
inflation rates are expected to be about 9
percent, down from a high above 100
percent. Interest rates on mongages are
running at about 19 percent. . The govern-
ment is trying to get inflation down to 5
percent next year, when ihe secondary
market structure would begin operaiion.

With 5 percent inflation. Gonzalez
Karg says a secondary market should
work, both for consumers and for inves-
tors, providing more securities on ihe
market and utilizing more capital.

But some industry observers say a sue.
cessful development of a secondary mar.
ket may not be so easy. Culturally,
people are uncomfortable with consumer
credit. Because Mexico's inflation
reached such high levels, few people want
to borrow long-term on variable raies
But investors fear geiting locked inio
long-term rates. "The concept of long-
term lending just doesn't exist in Mexico
today." says John Kauih, a partner in
Intercontinental Asset Management
Group Ltd.. a San Anionio-based invest-
ment firm.

Bui Bello says that is changing. One of
Mexico's banks, Grupo Financiero Serfin
recently launched a fixed-rate mortgage
product. The government also recently
extended the term of its treasury bond,
the CETE. to two years. Bello says that
the securities industry believes ihai the
country will continue to reduce its infla-
tion, reducing interest rates and extend-
ing its investment terms. "It's going to
take some lime," he says.

THE WALL STREET JOURNAL

THURSDAY. NOVEMBER 18. 1993 CI

kitch eri'Sink Bonds May Offer
Everything hut Stability

By Laliia Jereski

Sta/f Reporter of Tmx w*u. Stucet Joumnai.

There they go again.

Wall Streeters have fifured out a new
way to turn explosive securilies into tame-
looking investments- Once again, banks
are the targeted buyers. But regulators
(ear the tionds' future may prove stormier
than buyers expect.

Banks and other financial institutions
have bought more than $3 5 billion of them
since Apnl. The offenngs are called se-
cured investor trusts but known on the
Street as "kitchen sink bonds." because
ley are backed by everything but.

For secunties firms and some of their
clients, kitchen-sinkers are a godsend. The
bonds are issued by trusts into which Wall
Street dumps bits and pieces of capricious,
hard-to-value mortgage-backed securities.
If the market for a certain mercunal
mortgage-backed bond should dry up. just
pop it into a trust and get it oft the
investors' books.

Yet even the bonds' admirers aren't
without qualms. Michael May. vice presi-
dent of the Federal Home Mortgage Loan
Corp.. which issues mortgage-backed secu-
rities and has been considenng issuing
this type, concedes: Some days 1 feel just
fine, some days they make me ner-
vous as hell,"

Kitchen-sinkers are the offspiing of

mortgage-backed securities, which are
backed by the interest and principal pay-
ments from pools of mortgage loans. Wall
Street carves up the cash flows from those
secunties into quirkier bonds, known as
collateralized mortgage obligations, or
CMOS. There are mo re 'P^" 'S"" hi||^nn jf
CMO S onlFie market. .
TMore PaJatable Mix

The problem is. a few CMOS are
jujt loo weird for investors to digest.
These CMOS may languish in the invento-
nes of Wall Street firms that underwnte
CMOS or on the books of customers, posing
risks. Kitchen-sinkers are the latest way
Wall Street gussies up mercunal bonds
and passes them on to other investors The
idea is to lump lots of the unpalatable
CMOS into another diversified pool, then
re-cut the underlying cash flow into pieces
that appear more appetizing.

To the extent that this creates demand
for more esotenc ICMOsI, the deals will
improve the market overall. " says Mr,
May of Freddie Mac,

Because kitchen-sinkers cairy tnple-A
ratings from credit rating services, their
nsks aren't obvious The top-notch rating,
from Fitch Investors Service Inc. and Duff
& Phelps Credit Rating Co , reflects how
the deals were structured, not the underly-
ing assets' safety

The bonds will boast the triple-.^ rating
as long as the underlying securities throw
off enough cash to pay investors as
promised, a structure known as a cash-
flow bond. .Never mind it s a slight prom-
ise: to repay investon their pnncipal at
the trusts' expiration in some 30 years.
What lures investors is the two percentage
points above floating short term rates they
will gel if the bonds work out.
Marketability Questioned

And what if they don f Federal regula-
tors and even cntics on Wall Street worry
that the bonds are too complex to analyze
and may be unsalable as a result The
trusts contain pieces of dozens of mortgage
deals - some pnvately placed - from as
many as a dozen underwnters

Our concern with this product is
the purchaser's ability to test the volatility
of the secunties, " says William A Stark,
assistant director of the office ol capital
markets at the Federal Deposit Insurance
Corp.. which insures bank deposits. The
Office of Thnft Supervision has deter-
mined that the bonds are high nsk hold
mgs. which means the thrifts holding them
would have to mark them to market
pnces.

Earlier this fall, mortgage prepay-
ments reached record levels as interest
rates fell and homeowners rustied to refi-

nance at lower rates That di^ve down the
price ot CMOS whose returns rely solely on
interest - not principal - payments on the
underlying mortgages: such bonds suffer
when mortgage prepayments nse because
It means the interest payments earmarked
for ihem are cut off early

Insurance companies feeling the heat
of new regulations wanted to dump such
interest-only bonds as lOs and PAC lOs. or
planned amortization class, a structure
intended to be more siable When no one
wanted them, the sellers couldn t get an
acceptable pnce.
Spurred by Bajiks' Demand

Wall Street firms created the kitchen-
sink trusts to seize on the profit opportu-
nity created by matching up the poor sell-
ing lOs with banks' ravenous appetite for
floating-rate bonds- Bear. Stearns & Co.
has issued nearly S2-5 billion since April,
reaping at least $25 million in profit
and savings.

Banks are especially enamored of float-
ing rate mortgage backed bonds because
they are exempt from stringent new rules
intended to monitor the 'interest rate sen-
sitivity " of banks' portfolios. The rules
restnct bank investments in the most
volatile mortgage-backed securities, but
that has barely damped banks' appetites
Please Turn to Page C17, Column 3

High-Risk Securities
Find a New Home
In Kitchen -Sinkers

Conlmued From Page CI

for bonds that can match their short-term
liabilities. Holdings of CMOs by the 100
largest banks nearly tripled to $90 billion in
the first half of 1993. according to Inside
Mortgage Secunties. a newsletter.

The Wall Street firms putting these
deals together insist that the trusts provide
a resale market for hard-io-analyze bonds
that are prone to falling out of favor. If
there isn't a bid in the market," says one
deal designer, at least you can get the
bonds off your bocks "

Increasingly, however, underwriters
are using the trusts to absorb the risky
remnants of new issues, which must be
sold in order to sell the rest of the deal.

Case in point: the $263 million kilchen-
sinker sold last month by Bear Steams.
The trust contains pieces of 28 mortgage-
backed deals from nine underwnters and
IS replete with such esoterica as inverse
two-tiered index bonds, which are capped
bonds that float inversely to a popular
interest-rate index.

About $83 million of the bonds came
from Bear Steams' inventory, including
inverse two-tiered index bonds. lOs and
inverse floaters, which pay less as rates
nse. The rest were created by dealers at
General Electric Co.'s Kidder. Peabody &
Co. unit. Lehman Brothers, Merrill Lynch
& Co., Salomon Brothers Inc., First Boston
Corp.. Goldman Sachs, and Donaldson,
Lufkin & Jenrette Securities Corp.

.Many of the bonds in the trust are
less than six months old and may never
have been sold out of the dealers' inventory
before being absorbed in the trust. Yet
there isn't any disclosure about where the
bonds came from, or who underwrote
them, in documents filed with the Securi-
ties and Exchange Commission. There
isn t information about the pnce at which
the bonds were contributed to the trust nor
the valuation method Bear Steams used.

Such disclosure would be required for a
bond underwntlng or a public sale of stock.
But It Is absent here because the securtlles
in the mist - CMOs backed by mortgages
with credit guarantees from Freddie Mac
and the Federal National Mortgage Associ-
ation - are deemed to be secunties issued
by government-sponsored entities exempt
from disclosure requirements of the Secu-
nties Act o( 1933.

A Bear Steams official said it placed
bonds in the trusts when their cash flows ,
were needed to make the deal work or the
trusts provided the best pnce.

74-111 (96)

?,n,fl?^ ''^SLIC LIBRARY

3 9999 05981 812 8

ISBN 0-16-043954-X

9 780160"439544

90000