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Thursday, June 25, 2009

Barney Frank and the Condos

Bill O'Reilly had an eerily cordial interview with Barney Frank last night.

They went over a series of topics but I want to focus on Congressman Frank's directive to Fannie/Freddie to loosen their restrictions on condominiums. Many in the media, like the Wall Street Journal, are characterizing this as a repeat of mistakes that caused the crisis.

Back when the housing mania was taking off, Massachusetts Congressman Barney Frank famously said he wanted Fannie Mae and Freddie Mac to "roll the dice" in the name of affordable housing. That didn't turn out so well, but Mr. Frank has since only accumulated more power. And now he is returning to the scene of the calamity -- with your money. He and New York Representative Anthony Weiner have sent a letter to the heads of Fannie and Freddie exhorting them to lower lending standards for condo buyers.

You read that right. After two years of telling us how lax lending standards drove up the market and led to loans that should never have been made, Mr. Frank wants Fannie and Freddie to take more risk in condo developments with high percentages of unsold units, high delinquency rates or high concentrations of ownership within the development.

I am very torn about this. On the one hand, I really don't want to defend Barney Frank. On the other hand, Fannie/Freddie have really restricted condominium guidelines to the point where loans over 75% are extremely difficult to get done. Still, the last thing we need is for legislators to dictate to Fannie/Freddie what their underwriting standards should be.

Within the last month, both have made condominium financing even more restrictive. Now, they won't finance any condo in which the building is less than 70% sold. (it used to be 50.1%) Furthermore, they won't finance any condo in which more than 15% of the units are behind on their assessments. Finally, any condominium project in which any one owner owns more than ten percent of the entire lot is one they won't do.

In my opinion, Frank makes some legitimate points. This new rule makes it nearly impossible to finance any new condominium project. If Fannie/Freddie won't finance any project less than 70% sold, how is any new condominium supposed to get to 70%? The second part of the rule makes perfect sense. Any condominium with too much delinquency on assessments can't function because they don't have money. The third rule makes sense in theory, but in practice, it has all sorts of unintended consequences.

For instance, technically, this rule would disqualify any building that's less than ten units. After all, every owner would own more than ten percent. Fannie/Freddie make exceptions to this rule in such a situation, but the rule itself makes it very difficult to finance small condominium projects. It's nearly impossible for any one owner to own ten percent or more of a four hundred unit project, but fifteen units is a different story. If one person happens to own two units of a 15 unit project, is that necessarily a sign that this project is on the brink of financial collapse? Yet, it would no longer qualify for a Fannie/Freddie loan.

There are three problems with this story. The first is that the media, almost in unison, attacked Frank merely because he's an easy target. Since he is linked to to prior loose guidelines, almost everyone reflexively attacked his idea as more of the same. Most of these folks don't have nearly the type of sophistication necessary to make a judgement, but they attacked him regardless.

The second problem is much more serious. We now live in a mortgage world where it's Fannie/Freddie and FHA. That's it. If we had more loan choices, it wouldn't make that much of a difference that Fannie/Freddie tightened their guidelines on condos. We'd still be able to go elsewhere. Since they are basically the only game in town, this becomes a market moving phenomenon. It's further exaserbated by the fact that FHA has also moved to make condo financing more difficult. When there was also Sub Prime and Alt A available, this sort of a thing wouldn't be so devastating. That's because the entire market wasn't dependent on these two. Now, it is. What all of this should reveal is that we need serious reform to Fannie/Freddie. Their duopoly on the mortgage market has perverted real estate itself. What this reveals is that both wield far too much power in the market.

Third, Fannie/Freddie are far too close to Congress. Whether the idea has merit or not, we can't have Congress suggesting financing guidelines to mortgage securitizers. Yet, we've moved to making Fannie/Freddie closer to Congress not further away. They used to be an extension of the government which was bad enough. Now, they are a wholly owned subsidiary of the government. That makes it much easier for folks like Barney Frank to dictate terms.

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