Fannie And Freddie Skating On Thin Ice

Fannie Mae, Freddie Mac logos on generic background showing declining stock prices. AP/CBS

Wall Street and Washington wrestled Friday with how to shore up mortgage giants Fannie Mae and Freddie Mac, two troubled pillars of the economy whose failure would deal a devastating blow to the already crippled housing market.

As investors grew more convinced that only some type of government bailout could rescue the firms, Treasury Secretary Henry Paulson said the focus was to support the pair "in their current form" without a takeover.

The government was considering giving Fannie and Freddie access to the Fed's emergency lending program as one option to prop up the firms, said Sen. Christopher Dodd, D-Conn., citing conversations with Fed Chairman Ben Bernanke and Paulson.

A Fed spokeswoman said the central bank had not talked with Fannie and Freddie about the emergency lending program. The spokeswoman declined to discuss any other options being considered.

Both companies issued statements late Friday calling their financial positions solid. Freddie Mac said it did not see an immediate need to raise fresh money, and said other options included cutting its annual shareholder dividend, which costs $650 million a year.

Investors drove Fannie and Freddie shares to 17-year lows before the stocks recovered somewhat. The turmoil, combined with a new high for oil prices, helped send the Dow Jones industrials briefly below 11,000 for the first time in nearly two years. The Dow finished down about 1 percent at 11,100.54.

Fannie and Freddie were created by the government to provide more Americans the chance to own a home by adding to the available cash banks can loan customers. Shares of both companies are publicly owned.

When people buy homes, they usually take out a loan from a bank. The bank will then sell that loan to Fannie or Freddie, who in turn repackage the mortgages and sell them to investors. They also guarantee the mortgages will be repaid, reports CBS News Business correspondent Anthony Mason.

Their importance to the housing market and overall economy is hard to overstate: Fannie and Freddie either hold or back $5.3 trillion of mortgage debt, or about half the outstanding mortgages in the United States.

"If they did (go under), the mortgage market would break down and it would be 1929," Peter Morici, a University of Maryland economist, told CBS News. "We would go from a recession into a depression."

In the mortgage industry, the prospect of doing business without Fannie and Freddie is truly frightening.

"The cost of borrowing would go up dramatically," said Steve Habetz, president of Threshold Mortgage Co. in Westport, Conn. "We would be going back to dark ages where a homebuyer would be hoping that a local bank would (have enough resources) to make the loan that it will keep on its books."

Published reports suggested the government was considering taking over one or both of the companies and running them itself.

President Bush met with senior economic advisers and said Paulson had assured him that Paulson and Federal Reserve Chairman Ben Bernanke "will be working this issue very hard."

The men running for president also addressed the mortgage crisis. John McCain said he supports some kind of government assistance to keep Freddie and Fannie from going under and Barack Obama said in a statement that all necessary steps should be taken, reports CBS News Chief White House correspondent Jim Axelrod.

Wall Street sent the companies' stocks lower nonetheless. Freddie Mac shares were down 25 cents, or 3.1 percent, to $7.75. Fannie Mae shares were down $2.95, or 22.4 percent, to 10.25.

Both stocks have stabilized for now, but all this uncertainty may hike the cost of borrowing money until a plan's in place, reports Axelrod.

"I think everybody's just holding their breath in expectation that something substantive from the government will happen today or over the weekend," said Karen Shaw Petrou, managing partner of consulting firm Federal Financial Analytics.

Analysts also suggested the problems had as much to do with market perceptions than any fundamental change in the two companies' finances. One report from Citigroup titled "Fear Begets Fear" called the sell-off "overdone."

The government has several options that stop short of a dramatic takeover. The Federal Reserve could provide emergency loans, or take on either company's mortgage-backed securities in an effort to reassure the market.

Under a government takeover, operations would continue at Fannie or Freddie, but shareholders would probably see their investments erased, and the companies' ability to support the mortgage market could be reduced.

"Typically when this happens the business is a shell of its former self," said Louisiana State University banking professor Joseph Mason. "Shareholders aren't going to like it, managers and directors aren't going to like it, but it's not about whether they like it."

The mortgage giants could face a replay of the near-collapse in March of investment bank Bear Stearns Cos. A crisis of market confidence can make it difficult to raise day-to-day operating cash through routine debt sales.

The chief regulator of Fannie and Freddie, the Office of Federal Housing Enterprise Oversight, said on Thursday that the two companies were "adequately capitalized."

Congress created Fannie, the Federal National Mortgage Association in 1938 and Freddie, the Federal Home Loan Mortgage Corp., in 1970. They were designed to buy mortgages and bundle them into securities for sale to investors worldwide, making home ownership affordable for more Americans.

Under a 1992 law, they have less strict standards than commercial banks for the financial cushions they must hold to protect against risk.

Paul Miller, an analyst with Friedman, Billings, Ramsey & Co., said neither company is in as dire a financial position as Bear Stearns was in the spring - making investors nervous no action will be taken over the weekend to shore them up.

He said Fannie and Freddie could soothe market fears by selling more shares of stock to investors and raising cash. "I hope that they raise capital and they raise a lot of it," he said.

Congress is moving closer to completing a housing rescue package that would create a new regulator for Fannie and Freddie and tighten controls over them. The bills would also permanently raise the limit on the loans they can buy.
  • CBSNews

Comments

Watch CBSN Live

Watch CBS News anytime, anywhere with the new 24/7 digital news network. Stream CBSN live or on demand for FREE on your TV, computer, tablet, or smartphone.