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Fannie Mae and Freddie Mac in turmoil

Latest update : 2008-07-11

The US government is considering a plan to take over mortgage giants Fannie Mae and Freddie Mac if their finance problems deepen, US media have reported.

The US government is considering a plan to take over mortgage giants Fannie Mae and Freddie Mac if their finance problems deepen, US media reported on Friday.

Citing people briefed on the plan, the New York Times said the administration of President George W. Bush was weighing the possibility of having to place one or both companies in a conservatorship to protect them from the snowballing collapse of the US mortgage finance market.

"The officials involved in the discussions stressed that no action by the administration was imminent, and that Fannie and Freddie are not considered to be in a crisis situation," the Times reported.

However, it said that the two companies, by far the largest home loan financers in the United States with 5.2 trillion in mortgages or mortgage guarantees on their books, faced weakening balance sheets as their stocks plummet and their borrowing costs sour in the face of doubts about their health.

The Times said that an alternative intervention strategy, having the government guarantee the five trillion dollars of debt the two companies own or themselves guarantee, was seen as less attractive, because it would have the effect of doubling US public debt.

The Wall Street Journal, which first reported Thursday that the Bush administration was weighing strategies to keep the firms afloat, said Friday that pressure was on them now to raise fresh capital.

Under a 1992 law, if either is seen as being severely undercapitalized, it would have to be placed into government conservatorship.

"Such a move would be a drastic step and its path is uncertain, in part because few know what specific financial situation would be a trigger," the Journal said.

The two shareholder-owned firms, which have no explicit government backing despite their government charter, provide liquidity to the housing market by buying mortgages and repackaging them in securities sold to investors.

Freddie Mac has a loan portfolio of 1.5 trillion dollars and Fannie Mae's is over 700 billion. Together they own or guarantee about 40 percent of the total value of home loans in the United States.

Treasury Secretary Henry Paulson said Thursday that the two companies are "adequately capitalized."

Speaking to the House Committee on Financial Services, Paulson said Fannie Mae and Freddie Mac were "working through this challenging period" of the housing slump, which has seen billions of dollars' worth of mortgages and mortgage-backed securities collapse in value.

At the same hearing, Federal Reserve chairman Ben Bernanke said the government-sponsored firms "are well capitalized now in ... a regulatory sense."

But Bernanke added that all financial institutions needed to expand their capital bases so that they can be "even more proactive in providing credit and support for the economy."

The markets remained uncomfortable with those assurances. On Thursday, Freddie Mac shares plunged 22 percent to eight dollars, and were down over 40 percent this week and 75 percent this year.

Fannie Mae sank 14 percent to 13.20 dollars, down 26 percent in the week and 64 percent for the year.

Fred Dickson, analyst at DA Davidson & Co, said the tumble in the share prices reflected "renewed concerns about the availability of capital to restructure beleaguered financial institutions including Fannie Mae and Freddie Mac."

He said Fannie Mae's sale this week of three billion dollars in notes marked "a record spread versus US Treasury notes, indicating the reluctance of buyers to fund the troubled mortgage lender." That, he said, could jeopardize its AAA credit rating.

Peter Schiff at Euro Pacific Capital said the two giants were likely to need government bailouts.

"Together both firms have less than 90 billion dollars in capital reserves to insure losses on more than five trillion dollars in mortgage debt," he said.

"Could anyone reasonably believe that a two percent reserve fund can cover all the losses that are likely to be seen? ... Clearly, Fannie and Freddie would have no ability to survive without a government bailout."

 

Date created : 2008-07-11

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