Whither Fannie and Freddie?

By Reber, Jim | Independent Banker, January 2011 | Go to article overview

Whither Fannie and Freddie?


Reber, Jim, Independent Banker


Analysis of the housing GSEs' staying power

The financial viability of Freddie Mac and Fannie Mae is of vital importance to the community banking industry. There is no debating this point.

There are several reasons for this, not the least of which is that community banks, through their investment portfolios, own more Fannie and Freddie debt than ever before. As fallout from the midterm election results continues, the rhetoric will likely build for a near-term solution to the GSEs' stay in purgatory.

Where do they stand from an ownership standpoint? What are their changing roles in mortgage finance? The GSEs' ultimate resolution will tangibly affect how community banks build their bond portfolios in the future.

Original intent

Both Fannie Mae and Freddie Mac were originally chartered for the express purpose of creating a secondary market for single-family mortgages. They have had an unusual private-public ownership structure over the past 40 years, in which private investors owned the stock of these companies while the investment markets widely perceived that federal government would backstop their debt, including mortgage-backed securities (MBSs). Listening to government officials and Fannie/Freddie executives explain their awkwardly intertwined arrangement was like watching a group of sixth-graders at their first dance.

As the housing GSEs were beholden to their shareholders, they gradually drifted from their original mission and grew their balance sheets far beyond organic levels. By the early part of the last decade, a big chunk of their assets had nothing to do with highquality conforming single-family mortgages. Worse, their leveraging grew far higher than what would be considered safe and sound for a commercial bank.

Date of infamy

Sept. 7, 2008, was a day of reckoning for the shareholders of Fannie Mae and Freddie Mac. Then-Treasury Secretary Henry Paulson placed the two into conservatorship and effectively wiped out the stockholders. A special class of preferred stock owned solely by the Treasury was created to keep both statutorily capitalized.

In the 21/2 years since then, Fannie and Freddie have primarily returned to their original mission: to purchase and securitize qualifying mortgages. Ironically, their role has grown in importance as many hundreds of mortgage companies have gotten out of the home lending business, as have some large depository institutions. The remaining mortgage originators in many cases are making these loans only because they can efficiently sell them immediately to Fannie and Freddie. More than 90 percent of mortgages originated in 2010 were sold or securitized by one of these two.

But this doesn't mean the GSEs' financial woes have subsided. Both have consistently posted quarterly losses ever since they became wards of the state. …

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