Fannie Mae And Freddie Mac Are Poised To Issue Single-Family Social Bonds – Securitization & Structured Finance

Single-Family Social Bonds under the framework of environmental,
social, and governance (ESG) securities may be in the works for
Fannie Mae and Freddie Mac, according to a new Request for Input (RFI) issued by the Federal
Housing Finance Agency (FHFA) on February 16, 2023.

Each of Fannie Mae and Freddie Mac (sometimes referred to as the
“Enterprises”) has been seeking to participate in the ESG
sandbox for a few years now. The Enterprises already issue
multi-family social bonds. Beginning in 2021, the
Enterprises also issue single-family affordable bonds,
which are securities with an ESG patina based on and backed by
their respective affordable housing products, Fannie Mae’s
HomeReady® and Freddie Mac’s Home Possible®. However,
this is the first public attempt to assign the moniker of
single-family social bonds to certain of its single-family
mortgage-backed securities (MBS).

The Enterprises also pursued an initiative in 2022 regarding
High Social Index Pools (HISP) based on an announced “Single-Family Social Index.” Fannie Mae
explains that the Single-Family Social Index is a methodology that
provides insights into socially oriented lending activities on the
loans that it has acquired and assigns a score to each issuance of
mortgage-backed securities. It is a disclosure based on lending
activity; it is not a social impact metric. The Social Index is
designed to allow investors to identify pools with high
concentrations of loans that meet certain social
criteria.¹

The RFI is intended to enable the FHFA to understand the
opportunities and potential risks associated with single-family
social bonds. The announcement follows on the heels of the recent announcement by the Government National
Mortgage Association (Ginnie Mae) of its launch of a new low- to
moderate-income (LMI) disclosure in response to investor interest
in ESG investment mandates. But the Ginnie Mae proposal does not
seek to create a social index; it merely provides for new
pool-level LMI disclosures in its guaranteed mortgage-backed
securities. These disclosures include the number of underlying
loans made to LMI borrowers, the percentage of LMI loans among the
total loan count, the unpaid principal balance (UPB) of LMI loans
in the MBS, and the percentage of LMI UPB of total MBS UPB.

ESG investing is quite the rage these days, and the RFI provides
a concise and informative summary of this development. It notes
that ESG investors have diverse priorities and may invest based on
one or more ESG factors, such as climate, social or faith-based
investing. The RFI also references “impact investments”
that provide explicit opportunities to fund activities intended to
benefit a specific class of persons or the environment through
financial products that focus on facilitating positive social and
environmental outcomes. In other words, “social impact
investing can be defined as a subset of ESG investing and is
distinguished in that social impact investing seeks to create
social value, rather than minimize adverse impacts.” Included
in this category is social bonds, where investors “…may have
a mandate to seek positive social impacts, may invest because of
expected returns, or may pursue a combination of both
factors.” Yet, the RFI explains, factors related to social and
other ESG bonds are not defined in federal securities law, may be
subjective, and may be defined in different ways by different funds
or sponsors, and there is no Securities and Exchange Commission
(SEC) “rating,” “score,” or qualification that
can be applied to determine whether a product is
“social.”

At a minimum, though, the RFI explains that any program that is
designed to positively influence a stated outcome must identify the
set of specific outcomes that the program is intended to achieve
and then provide the metrics to enable investors to understand the
impact of the investment. It identifies borrower sustainability,
affordability and/or equity as the objective of a Fannie Mae or
Freddie Mac social bond, highlighting that:

“Outcomes may include homeownership rates, sustainability
and home retention outcomes, or improved liquidity. A social bond
program may seek to positively influence these outcomes by
isolating loans originated with desirable social attributes and
features, and may require that eligible collateral provide down
payment assistance, buydown programs, cost subsidies, liquidity
funds, increased borrower education and counselling, or other
borrower benefits. Subsequently, a program would provide impact
metrics to enable stakeholders to understand the impact of
investments. Impact metrics may include, for example, information
on mortgage rate and terms (e.g., basis points above/below the
Average Prime Offer Rate (APOR)), access to credit, and improved
borrowing costs. Per the International Capital Market Association
(ICMA) Social Bond Principles, which outline voluntary process
guidelines, a social bond program should provide regular,
transparent reporting to communicate to investors the expected
and/or achieved impacts of the investment.”

Of course, Fannie Mae and Freddie Mac already publish
single-family disclosure data to provide investors with information
on (a) individual loans, generally consisting of at-issuance data
about the borrower, property, and mortgage loan and monthly data
about the performance of each loan and (b) pools of loans,
generally consisting of summary or aggregated information about the
mortgage loans in a security. And this is a difficult balancing act
when borrower privacy considerations are taken into account. As
noted, more recently, Fannie Mae and Freddie Mac have issued
single-family affordable bonds and provided disclosures intended to
increase transparency into socially oriented lending. They
subsequently began publishing single-family MBS disclosures based
on the previously referenced Single-Family Social Index methodology
to measure the degree of socially oriented lending activity within
a pool and then issued related High Social Index Pools. But the
Enterprises did not designate either single-family affordable bonds
or High Social Index Pools as social bonds.

The RFI is the precursor to the actual, potential development
and issuance of social bonds, and FHFA is looking to the responses
to the RFI to help inform its future actions. It divides the
questions to which it seeks input into four categories: (1)
outcomes, borrower benefit and reporting; (2) eligible loans; (3)
general questions on a social bond program; and (4) disclosures and
borrower re-identification. Some of the questions are:

• What program outcomes and borrower impacts should a
  Single-Family Social Bond program seek to achieve? Which borrower
  benefit impact measures should be reported?




• What attributes should be used to determine whether a loan is
  eligible for a social bond pool (e.g., income, geography, down
  payment assistance, reduction in mortgage interest rate, buydown
  programs)? What are the advantages and disadvantages to identifying
  eligibility based on mortgage product versus some other methodology
  (e.g., minimum Social Index scores)?




• What considerations should be made to ensure the issuance of
  social bonds appropriately aligns with and supports the safety and
  soundness of the Enterprises? Are there social bond features or
  program designs that would conflict or be in tension with the
  Enterprises’ safety and soundness requirements?




• For investors with a social investment mandate, what
  attributes, impact measures, and guidelines/standards would be
  necessary to meet that requirement? Do current Enterprise products
  or programs already meet these investment guidelines, or would
  investors prefer or need Enterprise-labelled social bonds? Are
  there any guidelines that would prevent investment in social
  issuances?

Comments are due by April 17, 2023. FHFA will host a virtual
listening session on March 28, 2023 to allow for additional public
input. We are available to assist in the preparation or review of
comment letters, as well as to discuss the RFI in more detail.

Footnote

1. Individual loans are evaluated across eight specific
social criteria: low-income borrowers, minority borrowers,
first-time homebuyers, low-income areas, minority tract, high-needs
rural, designated disaster area, and manufactured housing. Scoring
based on these loan-level social criteria are further stratified by
assigning a value based on three factors: income, borrower and
property. The results are converted into two different scores that
are disclosed to investors: a Social Criteria Score, which
discloses the pool-level share of loans meeting specific social
criteria, and a Social Density Score, which discloses the
pool-level average of loan-level scores, reflecting layering of
social attributes.

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