Like the Universe, the Short-term Bond Opportunity Continues to - - PowerPoint PPT Presentation

Like the Universe, the Short-term Bond Opportunity Continues to Expand

• R. Wade Norris, Esq.

Eichner Norris & Neumann PLLC

1225 19th Street, N.W ., 7th Floor Washington, D.C. 20036 Phone: (202)973-0100 Fax: (202)296-6990 email: wnorris@ennbonds.com website: www.ennbonds.com

• Since the worldwide financial crisis in the 2008, interest

rates on certain types of taxable debt, especially debt explicitly or implicitly backed by the US government, such as debt issued or guaranteed by GNMA, and now Freddie Mac and Fannie Mae, have actually fallen below the rates

• n AA+ or Aaa rated tax-exempt municipal bonds backed

by the same credits.

• We rolled out the short-term cash backed bond structure in

early 2009. For the first 4 ½ years the program was used almost exclusively with FHA insured loans and RD loans, because of the extremely low rates achievable in taxable GNMA sales and the critical elimination of devastating construction period negative arbitrage which the program achieves on most Section 221(d)(4) new construction/sub rehab loans.

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• R. Wade Norris, Esq. Eichner Norris & Neumann PLLC (202) 973-0100

1.00% 2.00% 3.00% 4.00% 5.00% 6.00% 7.00% 8.00% 9.00% 30-Yr MMD 10-Yr US Treasury

Early 2008 – Taxable US Government Securities Rates Fall Below Tax Exempt Municipal Rates Long Term Rate Comparison: 30-Year MMD (Tax Exempt) Versus 10-Year Constant Maturity Treasury (Taxable)

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• R. Wade Norris, Esq. Eichner Norris & Neumann PLLC (202) 973-0100

1.00% 2.00% 3.00% 4.00% 5.00% 6.00% Jan-08 Jul-08 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Jul-12 Jan-13 Jul-13 30-Year MMD 10-Year US Treasury

Long Term Rate Comparison: 30-Year MMD (Tax Exempt) Versus 10-Year Constant Maturity Treasury (Taxable) January 1, 2008 - Present

400 BPS 153 BPS 4

• R. Wade Norris, Esq. Eichner Norris & Neumann PLLC (202) 973-0100



The “big bang” in the short-term bond universe occurred last summer.



An article in the October 30, 2013 Wall Street Journal describes the dramatic improvement in yields on taxable GSE Fannie/ Freddie risk share securities in 3 months since Chairman Bernanke’s threat to pull $85 billion per month stimulus in June.



The price on M-2 Class of Freddie Mac Structured Agency Credit Risk Notes (a hybrid GSE/ private credit) soared from $105 to about $118 and yield fell almost a third - from 7.3% in July to 4.67% in late October.

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• R. Wade Norris, Esq. Eichner Norris & Neumann PLLC (202) 973-0100

Markets in 100% GSE backed securities (like the ones we use) are less volatile. But these yields also fell relative to long-term credits.

Why? What happened?

• 1. The market believes that the tapering of Fed MBS purchases suggests

economic and housing recovery is real – strengthens Fannie and Freddie

• 2. Both GSE’s are now quite profitable – have fully reimbursed the

$188 billion of federal bailout funds; federal government needs money; perhaps a better political future in Congress???

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• R. Wade Norris, Esq. Eichner Norris & Neumann PLLC (202) 973-0100

3. We now have a new head of Fannie and Freddie’s regulator, the Federal Housing Finance Administration, Mel Watt, who is dramatically more friendly to the mission

• f affordable housing than his predecessor, Edward DeMarco.

4. Most important, regrowth in private capital for housing since private securitization markets largely destroyed in Fall of 2008 has been painfully slow.

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• R. Wade Norris, Esq. Eichner Norris & Neumann PLLC (202) 973-0100



Two GSE’s plus FHA still provide 90% of funding for U.S. housing loans (single family and multifamily) versus about 60% before financial crisis.

Federal Government’s (FHA/Fannie/Freddie) Role in US Mortgage Originations

Wall Street Journal September 6, 2013

Federal Government (FHA/Fannie/Freddie) v. Private Credit in US Mortgage Markets Wall Street Journal August 6, 2013

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• R. Wade Norris, Esq. Eichner Norris & Neumann PLLC (202) 973-0100

Regrowth in private mortgage credit in the US since the securitization markets were virtually destroyed in the 2008 financial crisis has been anemic at best.

 Notice two things about the orange bars atop the green

bars for 2009 – 2013 in the chart above: (i) They are teenie weanie, and (ii) They are hardly growing. Implies Fannie Mae and Freddie Mac may be restructured, but government credit will play huge role in U.S. mortgage markets until private capital can be enticed back in. This would significantly raise mortgage interest rates, which presents a major policy dilemma for the US government.

 All of the above suggests that the markets are coming to

view Fannie Mae and Freddie Mac as much better long- term credits than previously thought. Much like Ginnie Mae and the U.S. Government and perhaps better than any long-term private credits.

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• R. Wade Norris, Esq. Eichner Norris & Neumann PLLC (202) 973-0100

• As a result of these developments, the pricing on these

Freddie Mac and Fannie Mae credits has recently improved versus other credits, including long-term municipal bonds.

• A developer can now achieve a lower all-in borrowing rate by

selling a Freddie or Fannie mod rehab loan in the taxable market, rather than putting the same Freddie or Fannie credit backed 18-year fixed rate municipal bonds.

• On a Freddie Mac mod rehab loan, the Freddie Mac Lender will

fully fund the affordable housing loan at closing (except for certain rehab escrows). Freddie Mac will then simply purchase the loan from the Freddie Mac Lender two to three weeks post-closing.

• In the case of a Fannie Mae moderate rehabilitation affordable

housing loan, the Fannie Mae Lender can “wrap” the taxable loan with a Fannie Mae Mortgage Backed Security (“MBS”), which the Fannie Mae Lender can simply sell in the taxable marketplace for MBS securities.

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• R. Wade Norris, Esq. Eichner Norris & Neumann PLLC (202) 973-0100

• In today’s markets, such loans may be sold at interest

rates producing an all-in borrowing cost of about 5.5% to 5.60% versus 6.00% for an 18-year Freddie/Fannie backed municipal bond financed loan.

• Moreover, due to certain regulatory priorities at Freddie Mac

vis-à-vis the Federal Housing Finance Administration, as its GSE regulator, if a project has roughly 50% or more of its tenants at income levels of 50% of AMI or lower (due to Section 8 subsidy or other factors), at least for the time being, Freddie Mac will purchase the taxable loan at rates as low as 5.0% to 5.25%.

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• R. Wade Norris, Esq. Eichner Norris & Neumann PLLC (202) 973-0100

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Short-Term Cash Backed Tax-Exempt Bond + Taxable Loan Sale Long-term (18, 35

• r 40-year) Tax-

Exempt Bonds Backed by FHA/GNMA, Freddie Mac or Fannie Mae Estimated Approximate Savings in Rate FHA Insured Section 223(f) (Acq/ Mod Rehab) 4.50% v. 5.40% 0.90% Section 221(d)(4) (New Cons/ Sub Rehab) 5.00% v. 5.45% 0.45% Plus: Dramatic Reduction in Construction Period Negative Arbitrage; 1%-1.5% v. 8-10% for Long-term Bonds. Freddie Mac or Fannie Mae – Moderate Rehab Loans (100% @ 60% affordability) 5.50% – 5.75% v. 6.00% 0.25% to 0.50% Freddie Mac (>50% of units at <50% of AMI) 5.0% to 5.25% v. 6.00% 0.75% to 1.00%

Estimated All-In Borrowing Rates from Alternative Executions

• R. Wade Norris, Esq. Eichner Norris & Neumann PLLC (202) 973-0100

Benefits: Qualifies for 4% LIHTC; 0.5% to 1.0% Reduction in Mortgage Rate

TAXABLE FREDDIE MAC OR FANNIE MAE SALE WITH TAX EXEMPT BONDS AND 4% LIHTC

Borrower Freddie Mac or Fannie Mae MBS Purchaser

Bond Proceeds Disbursement to Borrower to cover project costs – at Closing

Cash Paper / Securities

Trustee Bond Purchaser

Project Fund

2-Yr Bonds Bond Proceeds Bond Payoff

(after Project is placed in service) 3 6

Lender delivers full Loan to Freddie

• r Fannie MBS to

MBS Purchaser (after Closing 2-3 weeks)

8 9 1 2

Lender Funds Full Loan Advance from its funds into Collateral Fund – at Closing

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Freddie Mac or Fannie Mae MBS Purchaser delivers Loan purchase price to Lender

Collateral Fund Bond Proceeds

(to Lender or Borrower at Closing) 7

Freddie Mac

• r Fannie Mae

Lender

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Borrower’s Submits Full Loan Draw Request at Closing

Tax Exempt Bond Proceeds equal to Collateral Fund Deposit Released to Lender/ Borrower

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• R. Wade Norris, Esq. Eichner Norris & Neumann PLLC (202) 973-0100

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• Note that under the new structure, one only has to issue tax-exempt

bonds in an amount sufficient to satisfy the 50% Rule, which may be significantly less than the taxable loan amount. This can further reduce financing costs.

• Since the short-term tax-exempt bonds under this structure would

typically bear interest at rates of 0.45% to 0.65%, actual negative arbitrage should be limited to less than 1% of the loan amount versus 2-3% or higher under the traditional long-term tax-exempt bond financing structure.

• We have also made certain changes in eligible investments which

can give a slight boost to reinvestment yields, while still giving borrower the right to redeem bonds as soon as project placed in service.

• R. Wade Norris, Esq. Eichner Norris & Neumann PLLC (202) 973-0100

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• Since its inception five years ago, the use of short-term cash backed

tax-exempt bonds with taxable long-term loan sales has now been approved by almost all of the country’s largest bond counsel firms. Probably well over 50 financings using this structure have now closed, and many more are now under way.

• The use of short-term cash backed tax-exempt bonds with taxable

loan sales has now also been approved and used on financings with almost all HUD offices, as well as by Freddie Mac and Fannie Mae.

• The structure has become the universally accepted (get it?) new

method for financing 100% affordable housing projects using FHA insurance and, more recently, for “moderate rehabilitation” Freddie Mac and Fannie Mae affordable housing loans.

• There is no limit to how much we enjoy closing deals – please call

us with any questions!

• R. Wade Norris, Esq. Eichner Norris & Neumann PLLC (202) 973-0100