25 March, 2020
The Federal Reserve (FED) has had a busy past few weeks. Since lowering the Fed Funds Rate1 and announcing their first Quantitative Easing (QE)2 actions of this crisis, they have taken several other actions to maintain liquidity and confidence in the economy. Many of these actions have been in conjunction with the Treasury3 utilizing the Exchange Stabilization Fund and most are an expansion of what is generally thought of as the FED’s authority4. Included for context and completeness are some policies that were put forth by congress or the GSEs. Let’s take a look at each of these actions undertaken individually. You are also invited to read our earlier post, for a deeper discussion on how COVID-19 and the recent FED actions are impacting mortgage pipelines.
March 15, 2020: The FED started encouraging the use of the discount window, or borrowing short-term liquidity directly from the FED. During normal times, banks borrow from each other overnight to meet reserve requirements and other needs, paying each other the Fed Funds Rate (which is a market rate that the FED targets by manipulating the markets). The other option, generally considered the option of last resort, is to borrow from the discount window, which borrows directly from the FED, paying the discount rate (a rate that the FED sets, not a market rate). The FED also lowered the discount rate to 0.5% and made loans available for up to 90 days.i
March 17, 2020: The FED created the Commercial Paper Funding Facility (CPFF)ii as a special purpose vehicle to purchase “unsecured and asset-backed commercial paper rated A1/P1 (as of March 17, 2020) directly from eligible companies.” The commercial paper market directly supplies credit and funding for mortgages and auto loans as well as operational needs to a range of companies.
March 18, 2020: The Families First Coronavirus Response Act has been signed into law, hopefully it will provide some steadying impact, as it expands unemployment insurance funds and food aid. The other two primary impacts of this bill are more specific to COVID-19 as it ensures free testing for all, even the uninsured, and provides 14 days of paid sick leave to workers affected by the virus. This paid leave is an appropriate public health and wellness measure in this case, but there are some concerns on the impact of this on small businesses because they will have to wait to be reimbursed through a tax credit.iii
Additionally, the FED created the Money Market Mutual Fund Liquidity Facility (MMLF) which will make loans available to eligible financial institutions secured by high-quality assets purchased by the financial institution from money market mutual funds. The MMLF will assist money market funds in meeting demands for redemptions by households and other investors, enhancing overall market functioning and credit provision to the broader economy.iv This facility was expanded on March 20, 2020 to allow the loans to be secured by “high-quality assets purchased from single state and other tax-exempt municipal money market mutual funds.”v
March 22, 2020: The FED, along with many other supervisory agencies, put out an interagency statement encouraging financial institutions to work with borrowers affected by COVID-19 and provided additional information regarding loan modifications. The supervisory agencies will not criticize institutions for working with borrowers and will not direct supervised institutions to automatically categorize all COVID-19 related loan modifications as troubled debt restructurings (TDRs). Short-term modifications that are made in good faith in response to COVID-19 to borrowers who were current prior to any relief and not TDRs. This includes short-term deferrals, fee waivers, and extensions of repayment terms.vi
March 23, 2020: The FED announced that it was expanding its QE operations to include commercial mortgage backed securities – not only agency as before – and has committed to purchasing the amounts needed to support smooth market functioning in the treasury and MBS markets.vii The FED also established the Primary Market Corporate Credit Facility (PMCCF) for new bond and loan issuance, the Secondary Market Corporate Credit Facility (SMCCF) to provide liquidity to the outstanding corporate bond market, and the Term Asset-Backed Securities Loan Facility (TALF) to support the flow of credit to consumers and businesses.viii These actions include up to $300 Billion in new financing.
In addition to the FED actions, Fannie Mae and Freddie Mac have begun to support borrowers and mortgage originators. Early this week, each began offering more flexible appraisal options. This includes the possibilities of exterior-only or desktop appraisals and encouraging lenders to accept appraisal waivers when available. This represents a piece of regulatory structure that was causing a lot of apprehension and congestion in the current climate. Due to the fact that the majority of loans currently in pipelines are refinances (mostly rate-term), the possibility of exterior-only appraisals may help those loans pull through and fund, keeping the market churning.ix
There is also increasing apprehension over the spike in delinquencies that is likely to occur as an economic side effect of the economy temporarily grinding to a halt. This is likely to put pressure on servicers to the extent that they need to advance the payments that are delinquent, and threatens to ripple through the entire economy.x For originators, although the purchase market is very slow right now, there are currently a lot of people out there that have equity in their homes and may need a cash-out refinance in order to get themselves or their families through this pandemic.
This is a lot to digest even for the well connected and informed, and it is still a very high-level overview of everything that is going on. The good news is that the FED has committed to keeping the MBS market liquid, so it is likely to not all come crashing down due to illiquidity of the underlying securities. In the coming days we will likely see more news, hopefully good, and keep transitioning to an ever more virtual economy.
Sources & References
 Fed Funds Rate is the rate that banks pay each other for overnight cash loans.
 Quantitative Easing is the Federal Reserve buying assets for cash, or making a loan against the collateral of an asset that is not a treasury security. QE is designed to keep markets liquid when interest rates have bottomed out.
 Many of the actions set up a facility to perform the function because it is outside of the FED’s normal course of business. The Treasury is an equity investor in these facilities.
 Traditionally the FED adjusted monetary policy by buying or selling treasury securities. This changed somewhat with the 2008 financial crisis when QE first came into existence and the type of securities that the FED would buy or take as collateral for a loan increased drastically, but probably the most notable addition is Mortgage Backed Securities (MBS).