Fannie Mae, Freddie Mac looking at new loans

updated 8:45 p.m. ET April 17, 2007

WASHINGTON - With foreclosures rising, federal bank regulators called on lenders Tuesday to work with distressed borrowers unable to meet payments on high-risk mortgages to help them keep their homes. The heads of Fannie Mae and Freddie Mac said the mortgage finance giants are developing new types of loans to aid homeowners in avoiding default.

Home-mortgage delinquencies and foreclosures have been surging in recent months, especially for people who took out subprime mortgages — higher-priced loans for people with tarnished credit or low incomes who are considered greater risks. The distress has roiled financial markets and stoked anxiety that it could spill over into the broader economy.

The Federal Reserve and the five other federal agencies that regulate banks, thrifts and credit unions, in a joint statement, encouraged the financial insitutions to extend flexible terms to struggling homeowners.

“Prudent workout arrangements that are consistent with safe and sound lending practices are generally in the long-term best interest of both the financial institution and the borrower,” the statement said. “Institutions will not face regulatory penalties if they pursue reasonable workout arrangements with borrowers.”

The initiatives for subprime loans of government-sponsored Fannie Mae and Freddie Mac, the biggest buyers and guarantors of home mortgages in the country, were disclosed by their chief executives at a hearing by the House Financial Services Committee.

Sheila Bair, chairman of the Federal Deposit Insurance Corp., exhorted mortgage lenders to show flexibility toward borrowers to help staunch a flood of defaults among homeowners with subprime loans.

Many of those borrowers “could avoid foreclosure if they were offered (loans) that allow for affordable mortgage payments,” Bair testified. Restructuring their expensive adjustable-rate mortgages “into more affordable products, especially 30-year fixed-rate mortgages, would bring them back to good standing, allow them to repair their credit histories and dampen the impact that foreclosures may have on the broader housing market.”

Most importantly, Bair added, “people would be able to stay in their homes.”

Adjustable-rate mortgages, known as ARMs, are especially prevalent in the subprime market. They are considered higher-risk loans because they typically draw borrowers in with an initial low “teaser” interest rate, which can spike upward after the first few years.

A homeowner who takes out a $200,000 ARM with a teaser rate of 4 percent, for example, initially pays $954.83 monthly in principal and interest. But when the interest rate jumps to 7 percent, say, in the second year of the mortgage, his payments rise to $1,320.59 a month — a move that regulators call “payment shock.”

The home-mortgage business has exploded in the last two decades with big Wall Street investment firms buying loans in bulk from banks and other lenders, and bundling them into securities to be sold to investors, spreading the risk. That has complicated the mortgage industry picture and the search for solutions to the immediate crisis.

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