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Federal Register / Vol. 86, No. 184 / Monday, September 27, 2021 / Proposed Rules
improve as mortgage loans age.
Therefore, higher leverage requirements incentivize an Enterprise to acquire riskier, higher-yielding exposures and then to hold that risk so that risk-based capital on the book approximates leverage capital on the book. A lower PLBA directly encourages a risk transfer strategy by lowering the long-run riskbased capital target for an Enterprises book. Buying and holding risky assets would likely no longer be optimal from a capital perspective if the risk-based capital on an Enterprises seasoned portfolio exceeded leverage capital.
Third, a leverage framework with a dynamic PLBA that grows and shrinks as an Enterprise grows and shrinks, respectively, would function as a better backstop to a risk-based capital framework that includes a systemic risk component such as the stability capital buffer. In the 2020 ERCF notice of proposed rulemaking, FHFA argued that a larger Enterprises default would pose a greater threat to the national housing finance markets than a smaller Enterprises default. As a result, a probability of default that might be acceptable for a smaller Enterprise could be unacceptably high for a larger Enterprise, necessitating the need for an Enterprise-specific stability capital buffer based on size. For similar reasons, a smaller leverage buffer may not be appropriate for a larger institution, and a larger leverage buffer may not be appropriate for a smaller institution. Therefore, a leverage buffer that adjusts with the stability capital buffer would help resolve this type of inconsistency and allow the leverage capital framework to better serve as a credible backstop to the risk-based capital framework.
Fourth, a dynamic PLBA that is tied to the stability capital buffer would further align the ERCF with Basel III
standards. Internationally, GSIBs are required to hold a leverage buffer equal to 50 percent of their higher lossabsorbency risk-based requirementsa measure akin to the GSIB surcharge in the U.S. banking framework. FHFA
believes that tailoring an Enterprises leverage ratio to its business activities and risk profile, to the extent that these characteristics are related to an Enterprises share of the residential mortgage market, will allow for leverage to remain a credible backstop to riskbased capital without discouraging the Enterprise from participating in low-risk activities.
Question 2: Is the proposed PLBA
appropriately formulated? What adjustments, if any, would you recommend?

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Question 3: Is the PLBA necessary for the ERCFs leverage framework to be considered a credible backstop to the risk-based capital requirements and PCCBA?
Question 4: In light of the proposed changes to the PLBA and the CRT
securitization framework, is the prudential risk weight floor of 20
percent on single-family and multifamily mortgage exposures appropriately calibrated? What adjustments, if any, would you recommend?
B. CRT
CRT Risk Weight Floor The proposed rule would replace the prudential floor of 10 percent on the risk weight assigned to any retained CRT exposure with a prudential floor of 5 percent on the risk weight assigned to any retained CRT exposure.
The prudential risk weight floor plays an important role in the ERCF
securitization framework. The risk weight floor is designed to mitigate certain risks and limitations associated with underlying historical data and models, including that crisis-era losses at the Enterprises were mitigated by federal government support that may not be repeated during the next crisis and that potential material risks are not assigned a risk-based capital requirement. In addition, banking agencies believe requiring more capital on a transaction-wide basis than would be required if the underlying assets had not been securitized is important in reducing the likelihood of regulatory capital arbitrage through securitizations.16 CRT may pose similar structural risks that merit a departure from capital neutrality. Therefore, the ERCFs risk weight floor helps mitigate the model risk associated with the calibration of the credit risk capital requirements of the underlying exposures and the model risk posed by the calibration of the adjustments for loss-timing and counterparty risks.
In sizing the 10 percent prudential risk weight floor, FHFA sought to promote consistency with the U.S.
banking framework and strike an appropriate balance between permitting CRT while also mitigating the safety and soundness, mission, and housing stability risk that might be posed by some CRT. FHFA continues to believe 16 See Regulatory Capital Rules: Regulatory Capital, Implementation of Basel III, Capital Adequacy, Transition Provisions, Prompt Corrective Action, Standardized Approach for Risk-weighted Assets, Market Discipline and Disclosure Requirements, Advanced Approaches Risk-Based Capital Rule, and Market Risk Capital Rule, 78 FR
62018, 62119 Oct. 11, 2013.

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that an Enterprise retains credit risk to the extent it retains CRT exposures and that such risk should be appropriately capitalized. There is the risk that the structuring of some CRT is driven by regulatory arbitrage, with an Enterprise focused on CRT structures that obtain capital relief that is disproportionate to the modeled credit risk actually transferred. There is also the risk that a CRT will not perform as expected in transferring credit risk to third parties, perhaps because a court will not enforce the contractual terms of the CRT
structure as expected. Because CRT
tranches, even senior CRT tranches, are not risk-free, each Enterprise should maintain regulatory capital to absorb losses on those retained CRT exposures.
However, FHFA believes that the current CRT risk weight floor may not achieve the proper balance between permitting CRT and safety and soundness.
As currently calibrated, the 10 percent floor on the risk weight assigned to a retained CRT exposure unduly decreases the capital relief provided by CRT and reduces an Enterprises incentives to engage in CRT. This occurs in part because the aggregate credit risk capital required for a retained CRT
exposure is often greater than the aggregate credit risk capital required for the underlying exposures, especially when the credit risk capital requirements on the underlying whole loans and guarantees are low or the CRT
is seasoned. Decreasing the CRT risk weight floor to 5 percent would directly lessen this disincentive while still ensuring that all retained exposures are treated as being not risk-free.
In addition, the 10 percent risk weight floor discourages CRT through its duplicative nature. Per the ERCFs operational criteria for CRT, FHFA must approve each transaction as being effective in transferring the credit risk of one or more mortgage exposures to another party, taking into account any counterparty, recourse, or other risk to the Enterprise and any capital, liquidity, or other requirements applicable to counterparties.17 This regulatory approval process mitigates the safety and soundness risk posed by CRT
structures and contractual terms, lessening the need for a tranche level risk weight floor as high as 10 percent.
Moreover, the Enterprises are able to further lessen the need for a punitive CRT risk weight floor with their ability to mitigate unknown risks through their underwriting standards and servicing and loss mitigation programs. The standards and programs are flexible, 17 12

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