The Velocity of Change

Things in the financial markets and the economy as a whole are changing so fast, it’s enough to make you want to unplug your TV and unsubscribe to all of your news feeds. As I was thinking about what to write for this article, I couldn’t stop considering the fact that regardless of what I write, it will be outdated by the time the paper leaves the press. Even the facts in the e-mail version will probably be outdated within twenty-four hours of when we press “send”.

You engineering majors know this formula; V = D/T (velocity equals distance divided by time). The past few days I’ve been thinking about what would happen if distance was swapped out with change while applied to some of the more bizarre, recent market events and what kind of ratios it would produce.

On March 10th, Bear Stearns had about $18 billion in cash reserves and its CEO was hanging out in Palm Beach. Six days later Bear Stearns was offered to JPMorgan Chase for $2 per share, down from $170 per share twelve months earlier. Billions of dollars evaporated at a velocity measured practically in hours.

But, some things never seem to change. Like Congress (velocity = change/never). The “Housing and Economic Recovery Act”, H.R. 3221, was introduced to the House of Representatives on July, 30th, 2007 and was finally passed on Saturday, July 26th, 2008. From what I understand, it originally started out as the “Energy Independence and Security Act of 2007” which was passed in December of last year by stuffing most of its provisions into H.R. 6, leaving H.R. 3221 more or less an empty container for a housing bill.

Then it was called the Foreclosure Prevention Act, the Housing Economic Recovery Act, then the American Housing Rescue and Foreclosure Prevention Act, all the way up until the Fed and the Treasury woke up to the potential insolvency of Fannie and Freddie, when it was finally named the Housing and Economic Recovery Act. Whew!

Our government, particularly Congress, is an easy source for punch lines. But, personally I don’t think it’s fair in this particular instance, primarily because of the velocity of change in the market. Every time Congress would make progress on H.R. 3221, another unexpected and often historical event would take place in yet another sector of the capital or housing markets. Congress would then have to re-group, re-evaluate, and sometimes start over with a totally new set of circumstances — weekly and sometimes daily. Massive changes have accelerated and have involved amounts of money on a scale never dealt with before in our Nation’s history.

Another issue that feels like it’s moving slowly is progress on the Home Valuation Code of Conduct (HVCC). When the news of the HVCC first hit the wire back in March (only four months ago), it seemed like opinions, interpretations, and details of its origin and status were popping up daily. We dedicated ourselves to staying on top of the issues surrounding the HVCC as much as possible, and to involving ourselves in effecting proper pro-appraiser and pro-consumer changes with all the resources at our disposal.

One of our objectives — public exposure in a national venue — culminated to a certain extent on July 15th when Senator Elizabeth Dole, (R-NC) was able to question Federal Reserve Chairman, Ben Bernanke as he testified before the Senate Committee on Banking about the overall health of the economy and the difficulties facing Fannie Mae and Freddie Mac. Senator Dole asked Chairman Bernanke specifically what the Fed is doing to ensure the HVCC does not further disrupt the housing and mortgage crises in this statement:

"…While everyone appreciates the goals of this agreement, the code leans heavily towards inconsistent and potentially counter-productive regulation of the lending industry. If implemented poorly, [it] could actually increase costs of obtaining appraisals and slow down the process of obtaining appraisals. Recognizing that the current settlement recommendations are inconsistent with current appraisal regulations and guidelines issued by the FFIEC sub-committee on appraisals. What are you doing to ensure the implementation of the code of conduct does not further disrupt the current housing and mortgage crisis on federally regulated banking institutions? What can you do?”

Fed Chairman Bernanke responded by saying that they are looking at the HVCC to ensure that it doesn't prevent banks from getting the information they need to make good appraisals or impose excessive costs. He also commented they will be examining the HVCC before it's implemented.

It’s important to note that while there's still work to be done on the HVCC issue, appraisers should realize their voice has been heard in a very important way. In fact, since we worked together with our customers and non-customers to deliver over 31,000 letters to the various agencies involved in the HVCC, almost every federal regulator, including the Federal Reserve, has written OFHEO to express their concerns about the HVCC.

And our grassroots e-mail campaign, coupled with comments from thousands of appraisers to Senator Dole, as well as other Senators, greatly impacted Senator Dole’s comments to Fed Chairman Bernanke on July 15th. On that day, it became crystal clear, in a very public way, that the HVCC had received the attention of regulators at the highest levels, and they had concerns similar to ours and yours.

To be more specific, I strongly believe that Chairman Bernanke’s opinions about the HVCC are important for multiple reasons. The primary being that on July 13th (a whole two weeks before H.R. 3221 was passed) Treasury Secretary Henry Paulson announced that the Federal Reserve would fill a new consultative role in any new regulatory framework eventually decided by Congress for Fannie and Freddie and would also weigh in on setting capital requirements for the companies.

Of course, only the week before both Chairman Bernanke and Secretary Paulson appeared before the House Financial Services Committee and said OFHEO had found both Fannie and Freddie adequately capitalized. That “adequate capitalization” apparently vaporized even quicker than Bear Stearn’s $18 billion. There’s some change velocity for you.

Regardless, H.R. 3221 did indeed establish the Federal Housing Finance Agency (FHFA) to oversee and regulate Fannie Mae and Freddie Mac. The FHFA replaces the Office of Federal Housing Enterprise Oversight (OFHEO) as Fannie’s and Freddie’s regulator. It appears the Treasury needed the Fed to help “back up” Fannie and Freddie at least until H.R. 3221 was passed. H.R. 3221 now provides an important role for the Treasury, as well as the Fed, in how Fannie and Freddie operate moving forward.

Since the news about the status of the HVCC has been slow in coming lately, Chairman Bernanke’s response to Senator Dole regarding the HVCC had probably qualified as the most important news we’ve heard on the subject in a quite a while. That is, until last Friday, July 25th (just a few days before we went to press).

That’s when Donald Kohn, Vice Chairman of the Federal Reserve, wrote a letter to Senator Dole, responding to the written questions she submitted to the Fed regarding the HVCC. These questions were submitted from Senator Dole on June 5th, following the hearing on “The State of the Banking Industry: Part II”, before the Senate Banking Committee. That was a full month and a half before she had the opportunity to question Chairman Bernanke.

In his letter further demonstrating the Fed’s problems with the HVCC, Vice Chairman Kohn told Senator Dole:

“Your proposed amendment would acknowledge that federally regulated institutions and their affiliates are already subject to an appraisal regulatory framework and would address potential confusion on the part of those entities as to the appraisal standards for which they will be held accountable.

The Federal Reserve has reviewed the agreement [between the Attorney General of New York, OFHEO, and the GSE’s] and the accompanying HVCC and provided written comment to OFHEO.”

The five-page comment letter from the Fed and other co-signers to OFHEO Vice Chairman Kohn reads, in part:

“The Code [HVCC} conflicts in material ways with the rules and guidance established by the Agencies and undermines appropriate risk-management and consumer protection practices at federally regulated lenders. The Code inappropriately attempts to regulate the corporate structure and internal operations of federally regulated lenders in connection with their mortgage lending operations. In addition, the Code contravenes appropriate risk-management practices of federally regulated lenders by banning the use of appraisals prepared by in-house appraisers, appraisers employed by affiliates, or appraisers at entities that also provide loan settlement services.”

There you have it. It doesn’t seem likely that any new announcements will be made by the parties actually responsible for the HVCC until the newly formed FHFA sorts everything out with Fannie and Freddie. But, I certainly could be wrong. A new update or a major announcement about the HVCC could have come out well before you have a chance to read this article.

Heck, with the way things are now, we may hear something totally new tomorrow morning. All I can say is: Stay tuned, strap in and hang on.