During the aftermath of the financial crisis, Fannie Mae and Freddie Mac have been aggressively demanding that Wall Street and big bank aggregators repurchase millions of defaulted and distressed loans for alleged breaches of representations and warranties. In line with several recent blockbuster settlements with GSEs, Citigroup Inc. has agreed to pay Fannie Mae $968 million to resolve potential mortgage repurchase claims on loans sold to the U.S. mortgage guarantor between 2000 and 2012.
The resolution covers claims on nearly all of the 3.7 million residential first mortgage loans sold to Fannie Mae during this time period. Note, however, that to date there has not been a settlement of the repurchase claims Freddie Mac has asserted or may later assert against Citigroup so we would expect repurchase demands based on Freddie Mac claims to continue unabated.
Citigroup indicated that the settlement is within the amount of its existing reserves for repurchases. Notwithstanding the size of the deal, the bank still anticipates funding a $245 million residential mortgage reserve for its second quarter, consistent with reserves for recent quarters. Interestingly, this is a strong indication that Citigroup will continue to work out buyback disputes with Freddie and its other investors amicably.
Maintaining Business Relationships
“We have a strong and productive relationship with Fannie Mae,” Jane Fraser, CEO of CitiMortgage, said in a statement. “As we work to deepen and enhance financial relationships with our clients, we will continue to focus on the production of high-quality mortgage loans.”
Bradley Lerman, Executive Vice President and General Counsel of Fannie Mae, released a similar statement that the “resolution is an example of our desire to work together with our business partners to find common ground.” Lerman added that the agreement “compensates taxpayers for losses, and allows Fannie Mae and Citigroup to move forward and strengthen our business relationship.”
Clearly this is not a change of position for either party. We have long speculated that the give and take between these industry giants was to a large extent due to their business objectives rather than the merits of the repurchase claims themselves.
Likewise Originators Should Consider Their Own Business Relationships
While litigating or otherwise seeking to resolve mortgage repurchase claims, loan originators are forced to take into account whether or not they maintain a current relationship with the entity making the demand, and if so, ultimately must determine whether or not that relationship ought to be preserved. Moreover, even if there is no existing relationship, unlike Citigroup, many originators are forced to pick their battles due to their capital structure and thin repurchase loss reserves.
However, that does not mean that the originators should allow themselves to be bullied into repurchases. As we have often said, if an originator is confronted with these increasingly stale, typically weak and largely unsupported demands, the originator should ask the party asserting the claim to document every aspect that it believes entitles it to be pursuing the claim. Most likely the party asserting the claim will advise the originator that the entitlement arises solely from the alleged breach of a representation or covenant. However, we believe that proving a “loan level” breach is just one part of a much larger picture.
One critical inquiry should be objective proof of the actual losses incurred, rather than relying on the internally prepared “loss statements” of the party making the demand.
For example, now that Citigroup has globally resolved its legacy loan issues with Fannie Mae, we would argue that the maximum claim against an originator for a loss that was resolved in this settlement should not exceed the amount of the settlement attributable to the loans underlying the specific repurchase demands being asserted against the originator.
Ripple Effect: Originators Beware
If history is any indication, expect Citigroup to continue to lodge similar buyback demands against the loan originators who underwrote and sold them many of the same loans that form the basis of the settlement. However, particularly in cases where the originator does not have an ongoing business relationship with Citigroup, the originator might want to look at Citigroup’s actual loan loss under the settlement as the absolute ceiling in a settlement negotiation.