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Fannie/Freddie: Renewed
Panic Spreading to Stocks, Treasurys |
Week of Monday,
July 15th, 2008 |
The Fannie-Freddie panic began
on Wednesday -- that is, this Fannie-Freddie panic, as opposed to the
prior ones. The firms had already lost 90% of their stock value, and can
continue to lose half of their remaining value every day forever with no
trouble. It's losing the other half that's a problem.
The immediate market response is perverse: mortgage rates have fallen a
hair this week (near 6.375%), but Treasury bond yields have risen
overnight (the 10-year from 3.81% to 3.92%), opposite the normal response
to panic. The market logic: if Fannie and Freddie will be
government-guaranteed, then all their mortgages and securities have
suddenly improved in credit quality. Treasurys are hurt by the prospective
cost of guarantee -- if it costs money, it means more borrowing and more
Treasurys.
Meanwhile, lending operations are normal today, closings proceeding,
although we are still desperately short of credit (Jumbos, ARMs,
non-owner, flexible underwriting...).
The Fannie-Freddie story will be widely mis-reported, especially in those
journals hostile to housing or to any intervention by government into
markets.
The real story is a tale of public policy mangled by everybody connected
to the two Agencies in the last 15 years -- both parties, two
Administrations, eight Congresses, and real estate- and mortgage-industry
lobbying.
Fannie and Freddie were created as last-resort buyers of mortgages in bad
times, and in good times facilitators of mortgage securitization by
guarantee. Guarantors face little risk, if underwriting is tough, and it
is a good, self-sustaining fee business. Owning mortgages is high risk.
Beginning in the early '90s, Fannie and Freddie jumped their charters,
buying huge masses of loans in good times, roughly $3-trillion worth. This
bloat on slim capital was a great benefit to their stockholders, whose
interests were perfectly opposite the original charter: self-sacrifice in
hard times, buying loans that nobody else wants in a moment of falling
home prices. Right now!
The real story is very good news. Fannie and Freddie have high-quality
portfolios, the only trash the "affordables" forced on them by Congress. A
government takeover would wipe out stockholders, but might not cost a
dime. Then the original charters will be restored: upon return of good
times, both outfits will gradually sell their portfolios.
Here's the bad news, and the reason for panic spreading to stocks and
Treasurys. It is rather bad news.
Since the financial markets seized last August, the authorities have done
well with emergency extensions of credit to the system, and especially the
Fed's finest hour in the liquidation of Bear Stearns. However, during that
time, the Fed and Treasury have insisted that institutions -- many large
banks and dealers -- can and should raise new capital in open markets.
The risk during this wait for market capital: credit starvation would kill
the economy. Until institutions raise capital, their capacity to provide
credit has been very limited, even running in reverse as the whole system
has tried to shrink, selling existing loans, and choking on the unsalable
trillions of bad loans and securities.
This Fannie-Freddie end-game has exposed that capital-raising plan as
hopeless. If these guys with good assets cannot recapitalize, neither can
the big banks and the Street. It was worth a try at market-sourcing, but
we have believed since August that a nouveau Resolution Trust Corp would
be required to extract the worst of the assets, take stock in the
institutions, and work out the trash over a long time. That extraction
will work (we've done it many times), but we're a tad nervous that we
waited too long, damage from credit starvation now may be hard to stop,
especially in housing.
Some good news: the same Congresspersons who insisted all fall and winter,
"No bailouts! Punish the lenders!", by this weekend began a different
chorus. "Necessary evil... Regrettable but unavoidable." About time, guys;
and we hope in time.
2008 ISSUES
RETURN HOME |
provided by:
Ashley Hickmon
Loan Consultant
Crestline Mortgage
303-669-8454 |
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thehickmonteam@crestlinemtg.com
Economic Notes is published
weekly by the Economics Department of Universal Lending Corporation as a
service to Colorado Real Estate professionals. © 2008, all rights
reserved.
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