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Secondary market.

Recent actions by states are threatening to disrupt the market for private mortgage-backed securities (PMBS) and agency MBS not backed by the full faith and credit of the U.S. government. A few states have already imposed investment limits and/or registration requirements on private mortgage related securities. Other states are planning to take similar action.

Traditionally, states have been allowed regulatory authority to establish investment limits for public entities, pension funds and certain regulated industries (e.g., insurance companies). The states, have also had the authority to subject certain securities issuers to registration and disclosure requirements. Presumably, the reason for these laws is the protection of the investing public. There is a growing concern among state officials that the insurance industry, regulated by states, could become another crisis of S&L bailout proportions. The states may also be motivated by increased revenues from registration fees and political benefits as well. In most cases, however, the states see this as a "states rights" issue.

Prior to 1984, the crazy quilt of state law investment restrictions and registration requirements were an impediment to the development of a private mortgage-backed securities market. With the enactment of the Secondary Mortgage Market Enhancement Act of 1984 (SMMEA) PMBS issuances improved dramatically during the 1986 to 1990 period. For 1986, the volume of publicly offered PMBS stood at $7 billion. By 1989, these issuances had doubled to over $14.2 billion. For 1990, publicly offered PMBS climbed to $24.4 billion. That's three and a half times the 1986 level.

One of the ways SMMEA assisted in creating a PMBS market is by making "mortgage-related securities" eligible for investment by federally regulated depository institutions. The other important change in SMMEA was the temporary pre-emption of state investment limits and securities "blue sky" laws. This pre-emption was addressed in very broad terms. First, the act authorized any person, organization or business entity to purchase, hold and invest in mortgage-related securities or the obligations of Fannie Mae or Freddie Mac. Second, where a state had limits on U.S. securities, the act requires that SMMEA securities be considered U.S. securities for purposes of the limitation.

The potential override of SMMEA state law pre-emption not only affects private label MBS, but Fannie Mae/Freddie Mac mortgage-related securities as well. One would generally expect the latter securities to be treated like U.S. government obligations since they are generally viewed as such by the investors. Even before SMMEA, many states treated U.S. and non-government guaranteed agency obligations alike for permitted investment purposes. Some states, however, never updated their statutes along these lines, thereby discriminating against non-government backed agency obligations. The fear now is that a move by these states to override the SMMEA pre-emption would reinstate existing state laws that provided unfavorable treatment to Freddie Mac and Fannie Mae mortgage-related securities.

The pre-emption of state law by SMMEA paved the way for an expanded market for investment in PMBS. By the end of 1989, private pension funds had increased their investment in private mortgage-related securities to $17 billion, up from $10.7 billion in 1983. Investment by public pension funds has been in the $25 billion to $30 billion range during 1988 to 1989. Investment by life insurance companies during the 1983 to 1989 period is even more dramatic. In 1983, of all mortgage securities held for investment by life companies, PMBS made up only 21 percent of the total, or $5.2 billion. By 1989, however, PMBS made up over 68 percent or more than $88.6 billion of the life companies' total investment in mortgage-related securities (source: The Mortgage Market Statistical Annual for 1991).

This cursory view of statistics provides ample evidence that SMMEA, with its state law pre-emptions, was the catalyst for the growth and development of private mortgage-related securities by enhancing the market liquidity of these securities. This, in turn, allowed for greater funds for housing and bette financing terms for the consumer.

If too many states, or a few significant states (e.g., New York or California), reinstate investment limits, the investor base for private mortgage-related securities, could be narrowed significantly. If this is allowed to happen, it will cause major problems in the secondary market as insurance companies and pension funds unload or curtail purchases of PMBS to meet state investment limits. Furthermore, it seems rather paradoxical that state action to limit insurance company investment in mortgage-related securities could actually hasten the decline of insurance companies by forgoing profitable investment opportunities.

MBA has been coordinating with state and local associations and the Public Securities Association in an effort to advise state officials of the negative consequences of these legislative proposals. States have until October 3, 1991 to enact legislation that effectively overrides the SMMEA preemption. MBA believes that the SMMEA pre-emption has not created any obvious state regulatory concerns that would warrant re-regulation.
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Title Annotation:private mortgage-backed securities
Author:Taliefero, Michael S.
Publication:Mortgage Banking
Article Type:column
Date:May 1, 1991
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