US mortgage business Freddie Mac wants more reinsurers to embrace its credit risk transfer programme

Freddie Mac, the US-government sponsored enterprise (GSE) that provides liquidity to the US mortgage markets by buying mortgages from lenders, anticipates that its credit risk transfer (CRT) programme will continue to grow steadily and 2020 could be one of its biggest years yet.

This means it needs more reinsurers to embrace the asset class, Mike Reynolds, vice president of CRT, told APCIA Today.

“The asset class is growing, and we want reinsurers to understand that this is a long-term opportunity. Our vision is that the percentage of our book that uses CRT will continue to increase this will mean more opportunity for reinsurers,” Reynolds said.

Since 2013, Freddie Mac has completed some 49 transactions involving moving credit risk to reinsurers, with a value of some $13 billion. It has used some 38 unique reinsurers in that time, 60 percent of which are domiciled outside the US an important point to Freddie Mac since it diversifies its risk. However, only around 30 reinsurers have been regulars on its Agency Credit Insurance Structure (ACIS) deals.

This $13 billion represents around a quarter of its total CRT programme in this time the rest has been transferred to the capital markets using securitisation deals. In 2020, Reynolds believes, Freddie Mac could exceed the $3 billion mark in terms of how much risk it transfers to reinsurers for the first time.

As the CRT programme grows, the GSE has been seeking new reinsurers to work with. Last year, it stated that its aim was to increase the panel of reinsurers to as many as 50 over time in order to ensure its risk transfer programme will remain stable and sustainable in the long term.

A year on, Reynolds said, more reinsurers are participating, although the panel has not yet reached 40 strong. He stressed that reinsurers that decide to accept this form of risk, rarely do it quickly as it is a big departure from the types of risks they are used to.

“It is not just a numbers game for us we want a broad market but also enough capacity to satisfy our needs. We know that some of our existing reinsurers are also willing to take more.

“We continue to attract new reinsurers, but we also understand that some simply do not wish to participate in this sector after what happened in the financial crisis,” he said.

“Our message to them is that the quality of the loans we are working with today is substantially different from those that failed during the financial crisis. On top if that, the macroeconomics for us are looking good.

“The millennial generation is now coming through, which is even more numerous than the baby-boomers.

“We acknowledge that this is a very sophisticated risk. Reinsurers ideally need to recruit specialist underwriters who understand this risk and invest in the analytics required.

“That said, there is very good third-party support available compared to 2013, but they need to get to a place where they are comfortable with this risk. From our perspective, we only want sophisticated reinsurers taking part.”

As the panel grows and becomes more comfortable with the risk, this has had a positive effect on pricing for Freddie Mac.

“Pricing is moving in the right direction for us,” Reynolds said. “We set these trades up with a market clearing level and we use brokers to execute the trades. We feel confident we are getting fair market value and generally pricing has been falling for us.”

Freddie Mac has started to innovate with the risk it is offering. In 2018, for the first time, the GSE sold some of its first loss risk layer to the market. Reynolds said reinsurers participated on the deal and are open to future trades of this nature.
“But it does require more sophistication,” he said. “At that layer, you are not assessing macro events, you need to have a specific view on the near-term performance of the portfolio.”

It has also launched its Integrated Mortgage Insurance (IMAGIN) programme, which allows reinsurers to supplement primary mortgage insurers by providing insurance coverage on a loan-level basis and participate in the low down-payment market and partner with Freddie Mac to help expand first-time homebuyers.

On mortgages with a loan-to-value ratio of more than 80 percent, GSEs are required to have some form of credit enhancement in place. At present, primary mortgage insurers fill this space but Freddie Mac is providing an opportunity to enable reinsurers that are qualified carriers in the US to participate in this business.

A pilot for that programme has gone well. “We have seen steady volumes and strong interest from reinsurers,” Reynolds said.

Its other innovation will be around offering reinsurers the opportunity to participate on mortgages from the moment they are originated essentially by their entering into forward-looking contracts. They would agree a level of participation and a risk profile of the mortgages in advance and the risk would immediately be transferred to the reinsurance markets as the mortgages are originated.

Reynolds said that on all forms of risk transfer, reinsurers are becoming increasingly confident taking the risk on and he maintains that this asset class will become increasingly important for reinsurers.

“This will become a bedrock of many reinsurers’ portfolios, offering diversification benefits and good returns,” he concluded.