"Financial institutions are under significant pressure to improve the flow of credit to underserved markets, and we recognize there are hosts of risks that, until now, haven't been fully understood." So says James H. Carr, a Fannie Mae vice president who heads the company's Office of Housing Research (OHR).

According to Carr, Fannie Mae has embarked on a major effort to identify these underserved geographic markets and determine their potential for home mortgage credit, using a complex new statistical and econometric model. The initiative is part of OHR's effort to find solutions to the nation's housing and urban problems.

OHR is a five-year-old, broad-based research institution within Fannie Mae with a 34-member advisory board of leading housing experts. Its varied research agenda focuses on underserved housing and mortgage markets in particular.

Minorities Underserved
Research has confirmed that minority applicants have a tougher time getting a home loan than whites because of persistent discrimination in mortgage lending.

"Mortgage applicants for properties in mostly African-American or Hispanic neighborhoods are far more likely to be rejected than applicants for properties in non-minority neighborhoods," said Carr.

The federal government, though, is pressuring financial institutions on several fronts to do a better job of serving minority communities.

In late August, the U.S. Justice Department told the banking community--through a settlement agreement with Chevy Chase Federal Savings Bank--to extend their marketing efforts to underserved, minority neighborhoods if they aren't doing so already. (For article on settlement, see page 1.)

In addition, federal financial regulators have intensified their efforts to improve the flow of credit to low- and moderate-income and minority households through proposed changes to the Community Reinvestment Act. Moreover, the U.S. Department of Housing and. Urban Development is working with the government-sponsored enterprises--Fannie Mae and Freddie Mac--and others to define underserved markets. (For article on CRA rule, see page 1.)

Measure of Credit Disparity
The complex statistical and econometric model that Fannie Mae's OHR is developing will help define underserved geographic markets and measure the need within such individual markets for owner-occupied residential mortgage credit, both for one-unit and multiple-unit properties.

The model will consider individual characteristics and neighborhood factors such as income, type of housing structures, and the presence of financial institutions. From this, Fannie Mae will be able to measure the potential credit flow to a neighborhood and compare it with the actual credit flow. The difference between these two numbers will represent a measure, or index, of the credit disparity in the neighborhood.

As part of its look at a neighborhood, OHR will examine mortgage originations by the primary market and mortgage purchases by the secondary market.

"The research examines credit flows across neighborhoods with varying property and borrower attributes," said Carr. "Areas with mortgage credit flows that are lower than the average, based on their particular attributes, will be considered underserved."

In the first phase of the research, Carr noted, 21 factors will be examined to identify underserved mortgage market areas. These factors will include such items as the home ownership rate, the average household size of home owners, and their debt-toincome ratio.
The study will initially target seven pilot cities: Atlanta, Dallas, Detroit, Houston, Philadelphia, Seattle, and Washington, DC. Preliminary results from the project are expected later this fall.

Use of Information
What does Fannie Mae's research project mean to lenders? And how will the information generated influence Fannie Mae's decisions to buy loans from a lender?

The credit disparity figures generated by the model could enable lenders to better evaluate their own performance in addressing a community's credit needs, and provide federal regulators with an objective, empirical indicator to analyze an individual lender's performance.

According to Carr, Fannie Mae "will use this research to better understand the relationship between its underwriting criteria and the underserved credit status of particular neighborhoods.

"The company," he continued, "will also share this research with lenders to provide them with an additional piece of information to help them better identify areas with strong mortgage lending potential. This research will not be used to determine which loans the company will purchase, although it might provide information that could result in further refinements to (Fannie Mae's) existing underwriting criteria."

Tie-In With CRA Reform
At present, federal financial regulators base their CRA ratings of financial institutions more on lenders' efforts to serve their communities' credit needs than on their actual success in providing credit. Both lenders and community organizations have criticized the current standards for their focus on process instead of results.

"The current system is very paper-intensive and, therefore, costly to banks," Carr said. "On the other hand, community activists point out that, under this system, very few lending institutions receive an unacceptable rating. Yet we know many neighborhoods need more mortgage credit than they are currently getting."

The federal financial regulatory agencies recently issued a revised, proposed rule that would drastically reform the CRA regulations. According to Carr, "that's where OHR's research may be very valuable."

The fundamental problem for both lenders and regulators, he said, is the difficulty in establishing a single performance measure for all markets. OHR's method addresses this dilemma, Carr noted, by taking into account the local market needs and developing an index unique to each area. Initially, this index will measure mortgage credit,
but over time it could be expanded to other forms of credit. "Every neighborhood is different," Carr said, "and CRA performance standards need to reflect local market conditions."

"We recognize that not all low-.income areas are underserved, and that not all underserved areas are low-income areas," Carr said. "Some are very good candidates for lending: they have good credit demand and are being served. Other areas have credit demand that is not being met. Still other areas may have problems beyond those that can be reasonably solved solely by private financial institutions."

Other Critical Components
Carr, though, cautioned that too much focus on performance could be counter-productive. Some processes, such as borrower education and outreach to the community, are often critical components of a successful community reinvestment program. Carr indicated that Fannie Mae's research results will show which particular neighborhoods in a locality are adequately served and which are credit hungry.

Referring to Washington, DC, one of the seven targeted cities, Carr said: "Eventually, we'll be able to look at a map of Washington and, irrespective of income, see which neighborhoods seem to be well served and which appear to be underserved."

(Alvin M. Hattal is a Washington, DC - based freelance writer and communications consultant.)

Directions in Affordable Housing Finance * Fall 1994

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