DRAFT Remarks by Michael Horn Chairman, Federal Home Loan Bank of New York March 24, 2009
It is an exceptional honor for me to join you here in Paris -- one of the international capitals and more importantly the most exquisite city in the world. I believe you could make a case that the lights of Paris shine even brighter given the sometimes dark back drop of the international economy. But we have been in much darker situations before and we have more than survived, we have prospered. And so we shall again.
Such past dark times include 1932, when the world was going through the Great Depression and one of the United States Government's responses was the creation of the Federal Home Loan Bank System to help bring stability to the housing market, and therefore the broader economy.
Since then the Home Loan Bank System has played a vital role in the nation’s housing finance and community lending system. Our member institutions -- including community banks, credit unions, insurance companies and thrifts -- use the FHLBanks’ advances program to meet the mortgage and community lending needs of their local markets.
The FHLBank System is comprised of 12 individual FHLBanks, their 8,100 member institutions, and the Office of Finance. The Office of Finance is located in Reston, Virginia and serves as the fiscal agent of the Bank: it issues debt you buy on behalf of the FHLBanks.
Each FHLBank is a separate and distinct corporate entity with its own stockholder/member institutions and its own board of directors. But the FHLBanks issue debt collectively and are jointly and severally liable for the repayment of those debt obligations. All debt, by regulation, must maintain a triple-A rating. 1
The FHLBanks are cooperative institutions that operate within 12 geographically defined districts.
Each FHLBanks capital stock is owned only by its member institutions.
FHLBank members must meet certain statutory eligibility criteria. Each member must purchase the FHLBanks capital stock in order to become a member, and must maintain capital stock holdings sufficient to support its business activity with the FHLBank, either in accordance with the statutory formula or, for FHLBanks that have already implemented the capital plans required by the GLB Act, in accordance with the individual FHLBanks capital plan.
The FHLBank’s capital stock is held at par -$100 per share -- by the member institution. The stock cannot be traded. There are no stock options nor other forms of stock-based compensation for FHLBank management, directors or employees.
Prior to the passage of the Financial Institutions Reform, Recovery and Enforcement Act (FIRREA) in 1989, the FHLBanks’ membership was generally limited to thrift institutions (building and loan association, savings and loan associations, savings Banks, homestead associations) some of which were required to be members and a handful of insurance companies. FIRREA expanded eligibility to provide for voluntary membership by commercial banks and credit unions with a demonstrated commitment to housing finance. The GLB Act further refined FHLBank membership rules by making federally chartered thrifts voluntary members for the first time and eliminating the remaining statutory differences in terms of access between thrift institutions and commercial banks and credit unions.
Since the beginning of the 1990s FHLBank membership has expanded dramatically. At the close of 1990 there were approximately 3,000 members. As of December 31, 2008, the 12 FHLBanks had a total of 8,176 member lenders, which included 5,847 commercial banks, 1,189 thrift institutions, 955 credit unions, and 185 insurance
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companies. And altogether, approximately 7,500 member institutions are community lenders with total assets less than $1.0 billion.
The core credit product of the FHLBanks is called an advance. It is a fully secured wholesale loan with varying terms and options taken by our member lenders. The advance level taken down by our membership has also grown strongly. On December 31, 1990, advances were $118.5 billion. Today, nearly 18 years later at the close of Q3, 2008 advances were $1 trillion.
Let me illustrate how this core Home Loan Bank product is used with a few examples of how members using advances and access to the FHLB System to manage risks and better serve the financial needs of their communities.
Accepting nonconforming loans as collateral for advances is a major value-adding element of advances. A New York City based member pledged as collateral for an advance a loan on a six-story, mixed-use property consisting of 43 cooperative apartments and three ground floor retail stores. Another New York City lender used as collateral a loan on a three-story building with eight apartments, one single-family cottage, and two garage buildings with nine bays.
Many lenders would not provide such "housing" loans, because there is no secondary market for them. FHLB members, however, have a unique incentive to make such loans, because FHLBs will accept them as pledges of collateral for advances. The result: for all intents and purposes, this makes them as liquid as "plain vanilla," conforming-single family mortgage loans.
Our advances give our members an advantage by enabling our member to develop individual, unique markets. Advances serve to fill gaps in member balance sheets due to fluctuating deposit flows. One FHLB member, a commercial bank, is located in an area of Alaska where the economy is based on seasonal industries such as tourism, timber and fishing. As a result, the bank's deposit base tends to fluctuate during the year. The bank is usually flush with funds during the summer, but its 3
available cash, or liquidity, is tight during the winter and spring. The commercial bank uses FHLB advances as a dependable, easy-to-access source of funds to meet its seasonal cash-flow needs. The result: the bank serves the community reliably throughout the year by maintaining its portfolio of loans and investments.
And advances can help address loan-deposit imbalances: A member in rural Indiana operates in an area that has experienced steady economic growth for several years. The short-term effect is an imbalance between loan demand and deposit growth, drying up the Bank's liquidity and pushing its loan-to-deposit ratio to a very high level. In order to continue to make every quality loan its customers need, the member began using FHLB advances to fund mortgages and agricultural loans and to manage liquidity. The result: advances allow the institution to meet the high loan demand without bidding up deposit rates.
I would like point out here that advances are secured by collateral substantially greater than the value of these loans. In the Home Loan Banks 76 year history, we have never incurred a loss on member lending.
Now, Home Loan Bank advances are a reliable, accessible funding source available during all phases of the business cycle. This means that community credit needs can be met in any number of economic scenarios. In difficult times such as the turbulence in the debt markets created by the financial problems in Russia in 1998 and this past August, our debt traded normally and our advances were available to our members without interruption. This means FHLBank members are safer, from a regulatory perspective, than financial companies who are without access to FHLBank funding programs.
The fact that FHLBank members can borrow at any time from their FHLBank allows them to be more active lenders in their communities. FHLBank members can also structure FHLBank funding in terms of conditions to meet strategic asset-liability management goals or to fund specific lending products.
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It is therefore not surprising that about 80 percent of U.S. lending institutions rely on the Federal Home Loan Banks for funds.
So with that background on the Bank System behind us, let me turn to the headline dominating current events of today.
Most economists agree that the financial health of the U.S. consumer is largely tied to the health of the housing market. In the most recent decade, a robust housing market and a robust employment market had combined to produce tremendous consumption and have been drivers of growth. And what few understood at the time but we all do know during the last few years that old proverb was again proved: nothing succeeds like excess.
The Wall Street profiteers and some short-sighted, lightly regulated mortgage brokers – who are different organizations from community bankers -- were offering an array of enticing goodies to keep the party going particularly in 2005 and 2006. The 2/28 loans, liar loans, and NINJA loans were made. NINJA is short for no income, no job, and no assets.
New construction, sales of new and existing homes, and home prices hit new highs. For many, overconfidence replaced caution. As the decade wore on, too many people believed that real estate was a no-loss investment and were enticed to borrow loans that they simply could not handle. Too often it was thought that any one could at any time sell any real estate at a profit if he/she needed to get out.
Funding this borrowing was especially profitable to Wall Street investment bankers who generated enormous fees by underwriting large volumes of non-agency securities. Wall Street then in turn would sell these non-agency MBS often to hedge funds – seeking to deliver huge, short-term returns.
The subprime market grew from 10% of new mortgages in 2002 to 25% in 2005 and 2006 or approximately $500 billion in each year. Wall Street kept the money 5
machine running during those two years by accepting lower standards. The lax underwriting standards are reflected in the growing debt-to-income ratios. From 2003 to 2005, the percent of full documentation loans fell from 75% to only 55%. And here the mortgage broker -- not regulated at the federal level -- was at the epicenter of this substantial deterioration on credit standards.
Now this negative narrative began to speed up. These bad subprime loans caused the trillion dollar mortgage backed securities market to dramatically repriced for risk and loss, which in turn hit the U.S. housing market and then the economy as a whole. They played a major part in the failure of Bear Sterns, the near downfall of AIG, and Lehman Brothers and the subsequent freezing up of the credit markets and huge slides in the stock markets.
As I have discussed, the Home Loan Banks were created to respond to touch financial crisis. So as we continue to struggle in a very tough economy, our members continue to find that the Home Loan Banks very reliable, accessible funding source.
The Home Loan Banks were among the first to respond to the credit crisis by continuing to supply short and mid-term liquidity -- when many other sources pulled back. During this time of crisis, the Home Loan Banks have proven to be a resilient and reliable source of liquidity. To these struggling marketplace—second only to the Federal Reserve - The Federal Home Loan Banks have lent $400 billion over the past 19 months of the credit crunch.
At the Federal Home Loan Bank of New York, we saw our advances rise from $60 billion in August of 2007 to over $100 billion in 2009, an increase of 66%. Our members – more than 300 in New York, New Jersey, Puerto Rico and the U.S. Virgin Islands – have continued to rely on these advances as the economy continues to struggle.
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As we have all read, heard or experienced, there has been a tightening in lending in the markets. But this increase in advances shows that our members are still actively lending. Home Loan Bank advances are supporting loans across the nation.
Our member banks are local institutions, involved in and committed to their communities. They make conservative, responsible loans – not the irresponsible loans you read about in the papers, but the kind of loans that put families in homes that they can afford, with mortgages they can repay. It is this type of responsible lending that has served as the backbone of this nation’s economy for so long.
The economy will eventually find stability with the help of action out of Washington including the passage of Housing and Economic Recovery Act of 2008 (HERA) became law on July 30, 2008. This act preserves the unique characteristics of the FHLBank System and helps assure our continuing to serve a central role in mortgage finance.
The Act created the Federal Housing Finance Agency to regulate the FHLBanks which replaced the Federal Housing Finance Board.
And the Act created the GSE Credit Facility enabling the Treasury Secretary to purchase FHLBank debt in any amount. The access is subject to the pledging of FHLBanks assets as collateral. This GSE Credit Facility authority expires December 31, 2009. It is not expected to be used.
While the time frame is beyond my ability to predict, the certainty of it is not. The world economy will pull through this and it is my guess so will the Home Loan Banks so long as living in homes remain the fashion!
So let my conclude by saying I appreciate the opportunity to briefly discuss the Home Loan Bank of New York, The Home Loan Bank System and the challenges of the day. And again point out that confidence will return. It is problem now of course. Businesses don't believe in other businesses, banks don't believe in other banks. So 7
we have a huge problem of confidence. And it reminds me of the economist who walked past $100 bill and didn't pick it up, and his friend said, "Why didn't you pick it up? It's yours for the taking." He said, "If it had been worth something, somebody else would've picked it up." And some day very soon one economist will not be happy that he passed up a $100 bill.
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