The HKMC's role, operations and governance arrangements are very different from Fannie Mae and Freddie Mac.
The federal mortgage corporations in the US (Fannie Mae and Freddie Mac), which are Government Sponsored Enterprises (GSE), have been under considerable stress, raising concerns over financial stability and the continued availability of housing finance in the US. Since they are systemically important institutions, legislation had already been passed to enable the US Treasury to take supportive action when necessary. On 7 September, the US Government announced that it was placing Fannie and Freddie under conservatorship to help preserve the well-being of the US economy and financial markets. These developments have led to a host of questions over mortgage corporations – the appropriate policy framework, their role, their supervision, their governance, and their business model, to name only a few. While the specific circumstances leading to the establishment of a mortgage corporation in each jurisdiction differ, there are lessons to be drawn from the US, although it is still uncertain how events will unfold.
While the Hong Kong Mortgage Corporation (HKMC) and Fannie Mae and Freddie Mac all have mortgages on their books and borrow from the market, there are distinct differences between Hong Kong and the US. The primary mission of the HKMC is to promote financial stability by providing a channel to help banks address their liquidity needs and the credit risk arising from their mortgage portfolios. This primary mission justifies the use of the Exchange Fund in setting up the HKMC. The primary mission of Fannie Mae and Freddie Mac, on the other hand, is to promote home ownership through participation in the mortgage market as mortgage lenders. This basic difference in their primary missions brings out other differences.
Fannie Mae and Freddie Mac, with the help of numerous mortgage brokers, originate mortgages, in direct competition with the banks. But the HKMC does not directly originate mortgages; it buys mortgages from banks which want to obtain liquidity or reduce the concentration of their exposure to mortgages. In the process of doing so, the HKMC increases the supply of housing finance, which also serves to promote home ownership, but this is not its primary objective. Without competition from a GSE, and encouraged by supervisory requirements, the banks in Hong Kong are able to maintain prudent underwriting standards, including notably the 70% loan-to-value ratio. The HKMC also maintains prudent purchasing criteria for the mortgages it buys in accordance with the supervisory standards, thus providing a further incentive for the banks to originate conforming mortgages. Being a public-sector organisation with a mission to maintain financial stability, the HKMC, though operating on a commercial basis, is not under the same commercial pressures as Fannie Mae and Freddie Mac were under. For example, the HKMC is not under pressure to maximise shareholders’ return through maximising business volume or leverage.
Fannie Mae and Freddie Mac are now overseen by a new regulator, the Federal Housing Finance Agency, which has strengthened regulatory powers. In Hong Kong, there is no formal regulatory system to oversee the operations of mortgage corporations. However, given the primary mission of the HKMC and its ownership by the Exchange Fund, the Board of the HKMC is effectively its regulator and the Board has been able to discharge its regulatory function effectively. The Financial Secretary, who is the Chairman of the HKMC, is also the controller of the Exchange Fund and has the overall responsibility for financial stability in Hong Kong. The Monetary Authority, who is the Deputy Chairman, is responsible for banking stability in Hong Kong. The governance arrangements of the HKMC therefore have a strong bias towards financial stability over profitability. For example, the Board has laid down prudent capital requirements to restrict the degree of leverage. At the end of June 2008, the HKMC's capital adequacy ratio, as defined by the Board, was 9.3%, which is equivalent to 19.6% under Basel II, and a gearing ratio of about 8 times. The leverage of Fannie Mae and Freddie Mac is in the region of 60 to 80 times. The HKMC adopts a much more conservative minimum capital charge for its mortgage portfolio (5%) and mortgage-backed securities (2%), compared with 2.5% and 0.45% respectively for Fannie Mae and Freddie Mac.
At this stage, it seems that the US experience points to the need for the HKMC to maintain its clear missions of maintaining financial stability, providing liquidity to the banking system, as a standing arrangement to take mortgages off the books of the banks and as a contingency backstop in case specific needs arise. The HKMC will also continue its business-diversification strategy and maintain a viable scale of operations to discharge its functions more effectively.
Joseph Yam
11 September 2008
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