Foreclosure filings skyrocketed, for their eighth consecutive quarterly climb, up 121 percent from last year, and the number of homeowners facing foreclosure more than doubled in the second quarter compared with a year ago, according to the latest reports.
Updated: May 3, 2013 12:14PM
Where did all the money go? Fannie Mae lost $2.3 BILLION in the last three months, and its cousin Freddie Mac lost nearly $1 billion, bringing its one-year total loss to nearly $5 billion.
Where did the money go? Just look around your neighborhood and see the foreclosed and for sale houses -- all worth a lot less than the mortgage money borrowed to buy them. Add it all up, in neighborhoods across America, and you have all those billions in losses.
Who are Fannie and Freddie?
Everyone has heard of Freddie Mac and Fannie Mae, but very few understand what a significant role they play in financing home ownership in America. Even fewer understand how conflicted they are, in their dual mission of supporting the housing market and acting as profitable businesses to provide shareholders with a return on their investment.
Fannie and Freddie are public companies, with public shareholders. Freddie Mac is an acronym for Federal Home Loan Mortgage Corporation. Fannie Mae stands for Federal National Mortgage Association. Fannie Mae was created in 1938 as an arm of the government, but in 1968 it was "privatized." Freddie Mac was created in 1970 as a private company with a similar mission, to provide liquidity to the nation's housing market.
The two organizations buy loans originated by financial institutions, packaging them for sale, and then using the proceeds to underwrite even more mortgages -- keeping the mortgage market "liquid." In 2006, they underwrote about 40 percent of all mortgages. Today, it is closer to 90 percent, as the private securitization market has dried up in the wake of the Bear Stearns failure and general credit market collapse.
But in addition to being public companies, they are also GSEs --Government Sponsored Enterprises. That means they have been protected since 1968 by the support of the federal government, in the form of a "line of credit" through the Treasury, exemption from state and local taxes, and from some SEC oversight, even though they are public companies. That perception that they are "protected" by the government has enabled them to borrow money in the public markets at a lower rate than private corporations.
It is the dual mission of these companies -- to act like real "businesses" but also to "help" Americans obtain homeownership -- plus their exemption from SEC oversight that have caused their problems. How does a private company built to earn profits simultaneously serve a social good?
A conflicted mission
Their dual mission -- helping home ownership and creating shareholder profits -- worked well when the housing market was booming, obscuring their unwise decisions to purchase subprime and Alt-A mortgages. But when the bubble burst, their record earnings turned to losses.
And they face more losses, based on current default rates and the gloomy outlook for housing prices in the future. Clearly, housing is not likely to rebound quickly. Equally clearly, the government will have to get involved.
When President Bush signed the Housing and Economic Recovery Act on July 31, it included a provision that would allow the Treasury to buy the equity and debt (stock and bonds) of these companies as a way to keep them going, should they "run out" of capital. A week before that, the Federal Reserve gave the two companies access to borrowing at the Fed's discount window -- something previously reserved for banks.
The price of the problem
Freddie Mac's stock is trading at $5.90 a share, down from its high of $67 earlier this year. And Fannie ended the week at $9.05, down from a high over $70 in the last 12 months.
Both have slashed their dividends to 5 cents a share, the minimum required for many institutions to keep holding their stock.
Now, both companies acknowledge the need to raise more capital -- at least $5 billion each -- but who would buy their stock, with such a gloomy outlook and the uncertainty about their future mission? It looks like the Treasury, our tax dollars, will be the buyer of last resort to save them. But save these GSEs for what purpose in the future?
A critical conflict
Some in Congress are urging them to keep growing, keep purchasing dubious loans -- just to keep the economy going, to restart the housing market, and restore the American dream of home ownership. You can understand why the politicians find this attractive in an election year!
Instead, the chastened companies are belatedly tightening up on lending standards, which means higher rates and less availability of mortgages, in order to do the right thing by their shareholders. That's not pleasing the politicians.
Does it make sense to restart the housing market under the same system, with expanded guarantees against risk? Do we want to create that fiction again? I think not. And that's The Savage Truth.
Terry Savage is a registered investment adviser. Distributed by Creators Syndicate. Copyright Terry Savage Productions Ltd.