Fannie & Freddie Sat On A Wall

Following the scare at Bear Stearns, Paulson and Bernanke are now furiously looking at the troubled Fannie Mae and Freddie Mac. These two were created by the US government and now hold more than 80% of all mortgages bought by investors in 1Q2008. This was doubled the same period last year.

They are the mortgage financiers of choice nowadays because lending has frozen somewhat in other avenues. Both companies have a combined capital of just US$83bn, but holds US$5 trillion in debt and other commitments. Fannie just announced a US$2.19bn loss for 1Q2008 and Freddie will announce next week.

Estimates range from US$17bn-US$22bn, the additional losses they are now sitting on.
Weak and weaker housing prices are gnawing at the value of the debt they are holding. Even if both fail, they should not hurt the equity markets badly (but will drag sentiment down) because they will definitely be bailed out. However, such a move will put further downward pressure on the USD.

The potential of just any one of them failing will cause housing prices to dip even further. The longer they are operating on a respirator, it is unlikely housing prices will find a bottom anytime soon.
Both companies will need to raise a lot of capital from the market, but will there be investors willing to pony up? The SWFs may be willing to look at them but both are sensitive companies and will not be allowed to have any SWFs on board. Both companies do not lend directly to home buyers but they buy from banks and other lenders. The reason why they account for 80% of all mortgages written in 1Q2008 indicates that banks are quick to sell the mortgages and lighten up as much as they could. Not exactly promising. To alleviate the sub prime issue, these two companies may have been "asked" to buy mortgages from the banks so that credit does not freeze up. But their balance sheet cannot withstand much further if housing prices fall further, which is highly likely. Something's gotta give soon. Another bailout so near election time will be prime fodder for the Democrats to nail the Republicans.

What is exceptionally worrying was that Congress temporarily raised the cap on the size of mortgages these two companies can buy from US$417,000 to US$730,000. This can only mean that credit is also freezing up in the higher range of properties, not just the lower end.

p/s photo: Coco Chiang Yi


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