Sep
7
Feds seize Fannie, Freddie
Filed Under Sunrise on KGMB9
The Treasury Department — acting Sunday while banks and markets were closed — seized control of Fannie Mae and Freddie Mac. These giant companies buy mortgages, giving lenders a quick profit so they can lend again. Fannie and Freddie dove deep into debt on defaults.
It was widely thought they might avoid seizure — until Friday, when news began to leak out that the feds found Fannie and especially Freddie were using legal but misleading accounting to overstate their reserves. They were in deeper kimchee even than they said.
Fannie CEO Daniel Mudd and Freddie CEO Richard Syron have been fired but will draw their paychecks for helping with transition. The new head of Fannie Mae is Herb Allison, a former Merrill Lynch vice chairman. The new head of Freddie is David Moffett, a former vice chairman of US Bancorp.
The government will inject a billion dollars into each company by purchasing senior preferred stock paying 10% interest. It will also buy 5 billion worth of mortgage-backed debt from the two companies later this month. This means existing Fannie and Freddie shareholders will take their own bath first.
Treasury Secretary Henry Paulson said, in so many words, that Fannie and Freddie are too big to be allowed to fail. That’s true. Together they either own or guarantee 5 trillion dollars in home loan, about half of all the home loans in America, and they’re losing a million dollars every five minutes.
Economists expect a major drop in mortgage rates. Some homeowners who are close to foreclosure will be able to refinance at lower rates and keep their homes. It might also stimulate new homebuying, at a time when mortgage applications are almost a third below last year.
Lack of confidence in Fannie and Freddie altered the arithmetic of the secondary market. They used to make their profits bundling and reselling mortgage notes with a return one and a quarter point above whatever Treasury bills were paying. Lately they’ve had to offer a spread twice as much as that.
None of this means people with poor credit will be able to buy homes again. Lenders who used to lend with no downpayment to people with credit scores of 620 now want a credit score above 700 and 20% down.
The New York Times reported Monday that the feds broke the news to the soon-to-be-fired CEOs of Fannie and Freddie on Friday. Because the Treasury had commissioned a study of their mortgages which would take weeks to complete, the two CEOs apparently did not see it coming, assuming there would be no action at all for several weeks.
They got their heads handed to them in two separate meetings, the Times reported, with the head of Fannie pleading to keep his job on the grounds that Fannie wasn’t as bad off as Freddie, which was true, but Fannie was in plenty deep enough kimchee to warrant dismissing the top management.
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