Really Simple Syndication
Downtown San Diego Buildings
Categories
- Bayside
- Blogging
- BOSA Development
- Buying
- Denny Oh
- Downtown San Diego Penthouses
- Events
- Featured Listings
- Geek Estate
- Hard Rock Hotel
- Miscellaneous
- Real Estate Finance
- Real Estate News
- Real Estate Tips
- San Diego Real Estate Deals
- San Diego Rentals
- San Diego Sales Statistics
- The Grande
Real Estate Blogs
Resources
Archives
560 First Ave,
San Diego, CA 92101
858-243-2092 Cell
619-481-5040 Fax
Fannie and Freddie get a New Boss – Part I
September 9th, 2008 categories: Real Estate Finance
I am sure you are all well aware that the US Government seized control of Fannie Mae and Freddie Mac over the weekend. The Government ousted both companies CEOs, will acquire $1 billion of preferred shares in each company without providing immediate cash, and has pledged to provide up to $200 billion in credit to the two mortgage giants. Eighty percent of both companies will go to the government who will receive a 10% dividend on every $1 invested.
The Treasury is placing both companies under a conservatorship, giving management control to their regulator, the Federal Housing Finance
Agency, or FHFA which was created as part of the Housing and Economic Recovery Act in late July.
While critics claim this dramatic intervention could potentially cost tax payers billions of dollars, the government counters that the cost of allowing
the two mortgage giants to fail would be catastrophic and could lead to a complete meltdown in the US financial sector that could trigger a global
panic. Treasury Secretary Henry Paulson stated that there are “reasonable scenarios where the housing market and economy will recover and there will be equity left.”
Fannie and Freddie’s credit problems reflect the overall weakness in the housing market, with over 9% of all mortgages in 1 to 4 family residences that are at least one month overdue, or in foreclosure. Additionally, it also marks the failure of the public-private experiment that was created by
Congress to help boost home ownership.
During the Great Depression, when borrowers defaulted on mortgages in mases and banks were running out of money to lend, President Franklin D Roosevelt and Congress created the Federal National Mortgage Association, Fannie Mae, in 1938, in order to buy mortgages from lenders
thereby freeing up capital that could go to other borrowers. Fannie Mae grew so large over the years that in 1968, with the Vietnam War straining the national budget, President Lyndon Johnson took Fannie Mae’s debt portfolio off the government balance sheet and converted it to a publicly traded company owned by investors. In 1970, Federal Home Loan Mortgage Corp., Freddie Mac, was launched primarily to keep Fannie Mae from functioning as a monopoly. It went public in 1989.
Today Fannie and Freddie dominate the mortgage market, partly because of the belief that loans backed by Freddie and Fannie carry an implicit
government guarantee. Treasury Secretary Henry Paulson has made it abundantly clear that this “flawed business model” is no longer able to fulfill
its mission of providing affordable home loans.
How did Fannie and Freddie get to this point? Both companies have long been shareholder-owned, government sponsored enterprises that create
liquidity in the residential mortgage market by guaranteeing, purchasing, securitizing, and investing in home loans. Fannie and Freddie buy
conventional residential mortgages from mortgage bankers thereby freeing up capital for mortgage bankers to make new loans.
Concern arose lately over the “safety and soundness of Fannie and Freddie’s capacity to raise and maintain capital.” Fannie and Freddie both
issue mortgage bonds, which over time mature and the principle on these maturing bonds comes due. To raise capital to pay these maturing Mortgage Bonds, the GSEs issue new Bonds. This happens every month and the system works well as long as the new bonds are purchased thereby raising capital to satisfy the maturing debt.
The problem arose as investors’ appetites to purchase these new bonds decreased and the GSEs had to increase the yields they offered on their
mortgage bonds to make them more attractive to investors. To cover the higher yields, the GSEs raised mortgage interest rates, but they could not increase interest rates on mortgages that had already closed, preventing them from offsetting the higher yields they were offering. As a result,
their current capital position and ability to continue to raise capital became a major concern and the government stepped in.
So what does that mean to our business? In the short term, we expect that mortgage rates should decline. The government’s action provided much needed investor confidence. Investors will likely come off the sidelines and step into the market and purchase Mortgage Bonds. Now for a higher rate of return, investors can buy Mortgage Bonds with the same guarantee as lower yielding Treasury bonds.
In the short term, this will free up liquidity and lead to lower interest rates. Most analysts predict this will help stabilize the housing market relatively quickly.
While this is not a guarantee, many think that underwriting guidelines may loosen to provide more affordable mortgages to more borrowers.
More aggressive conventional loans may slow down FHA loans which appeared on the way to 50% market share this year.
In the long term, the Government’s action raises the fundamental question about the government’s role in housing going forward. Secretary Paulson criticized the “flawed GSE business model” i.e. serving two masters–private shareholders seeking to maximize profits and the government
seeking to expand affordable home loans although he is leaving it up to the next Administration and Congress to solve.
While this action should dramatically improve conforming loans availability and pricing, the jumbo mortgage market will likely take longer to recover. Many of you have clients that are experiencing trouble in the jumbo mortgage market. I too have felt the shift in jumbo financing in the last few months.
To be continued…
Lysa Catlin
CMC Finance
858–456–3000
