Ticking Time Bomb?: Fannie Mae Monthly Summary January 2008

It appears now completely certain that the federal government, in attempting to “bail out” market participants that are hopelessly overleveraged and markets that are wholly overvalued, will lean on Fannie Mae and Freddie Mac by expanding their operations to include massive Jumbo loans.

It’s important to note that these changes are taking place with no required modifications to the GSEs operational practices and no additional powers granted to their Federal regulator the Office of Federal Housing Enterprise Oversight (OFHEO).

Given the sheer size of these government sponsored companies, with loan guarantee obligations recently estimated by Federal Reserve Bank of St. Louis President William Poole of totaling $4.47 Trillion (That’s TRILLION with a capital T… for perspective ALL U.S. government debt held by the public totals roughly $4.87 Trillion) and the “fuzzy” interpretation of their “implied” overall Federal government guarantee should they experience systemic crisis, these changes are reckless to say the least.

One key to understanding the potential risk that these entities face as the nation’s housing markets continue to slide lies in considering their current lending practices.

Although it’s been widely assumed by many that Fannie Mae and Freddie Mac have utilized a more conservative and risk averse standard for their loan operations, it now appears that that assumption is weak.

Whether it’s their subprime loan production, low-no down payment “prime” lending practices, or their conforming loan-piggyback loophole, the GSEs participated as aggressively in the lending boom as any of the now infamous bankrupt or near-bankrupt mortgage lenders.

Additionally, it’s important to understand that Countrywide Financial (NYSE:CFC) has been and continues to be Fannie Mae’s largest lender customer and servicer responsible for 28% (up from 26% in FY 2006) of Fannies credit book of business.

To that end, let’s compare the performance of Fannie Mae’s operations with that of Countrywide Financial.

The following chart (click for larger) shows what Fannie Mae terms the count of “Seriously Delinquent” loans as a percentage of all loans on their books.

It’s important to understand that Fannie Mae does NOT segregate foreclosures from delinquent loans when reporting these numbers and that should they report the delinquent results as a percentage of the unpaid principle balance, things would likely look a lot worse.

In order to get a better sense of the relative performance of Fannie Mae as compared to Countrywide Financial, the following chart (click for larger) compares Fannie Mae’s “Seriously Delinquent” loans (which include foreclosures) to Countrywide Financials loans in foreclosure.

Finally, the following chart (click for larger) shows the relative movements of Fannie Mae’s credit and non-credit enhanced (insured and non-insured) “Seriously Delinquent” loans versus Countrywide Financials delinquencies as a percentage of total loans.

BNN - MUST SEE TV!

Today brings six great additions to the BNN lineup, most notably, a Nightly Business Report interview with Federal Reserve’s Michael Moscow in which he admits, in so many words, that the housing decline has been more significant than the Fed had anticipated last year.

“As we move through this year, I would expect to see the housing market stabilizing, but no one can say exactly when that’s going to happen. I had thought it was stabilizing toward the end of last year as well and then we had some numbers that turned out to be worse than expected.”

Watch Moscow backpedal on BNN!

Next up there is News Hour interview with Treasury Secretary Henry Paulson in which he states that the US has experienced a “major” housing correction that was inevitable after years of historic gains. “That correction has now been significant, we think it is near the bottom, it will take a while to work its way through the system.” Unfortunately, Paulson only reiterates the same guidance he offered last year prior to the housing market taking another major leg down.

Watch Paulson call the bottom again on BNN!

Then there was Bernanke’s latest take on the subprime meltdown. Although Bernanke underestimated the extent to which the mortgage market would slide, he continues to present an optimistic outlook.

“How will developments in the subprime market affect the evolution of the housing market? We know from data gathered under the Home Mortgage Disclosure Act that a significant share of new loans used to purchase homes in 2005 (the most recent year for which these data are available) were nonprime (subprime or near-prime). In addition, the share of securitized mortgages that are subprime climbed in 2005 and in the first half of 2006. The rise in subprime mortgage lending likely boosted home sales somewhat, and curbs on this lending are expected to be a source of some restraint on home purchases and residential investment in coming quarters. Moreover, we are likely to see further increases in delinquencies and foreclosures this year and next as many adjustable-rate loans face interest-rate resets. All that said, given the fundamental factors in place that should support the demand for housing, we believe the effect of the troubles in the subprime sector on the broader housing market will likely be limited, and we do not expect significant spillovers from the subprime market to the rest of the economy or to the financial system.”

Watch Bernanke talk containment on BNN!

Next, we have an excellent segment where Marc Faber, founder and managing director of Marc Faber Ltd outlines all the assets, sectors and regions in which he sees bubbles. In an era of historic liquidity, it’s not surprising that there are price bubbles in virtually every asset. Faber suggests that “everything will come down and massively so.” Additionally, Faber sees the whole global bubble scenario resulting from the inflation of the US housing bubble.

“The global liquidity was fueled largely from the American current account deficit, coming largely from the trade deficit, coming largely from US consumption, which was driven from the asset inflation in the US, most notably the housing market.”

Watch Faber talk Bubbly on BNN!

Next, Mortgage Bankers Association Chairman John Robbins discusses the subprime meltdown suggesting that the extent of the mess has been “oversold”. While pointing the finger squarely at predatory lenders for their obvious role in the current meltdown, Robbins adeptly downplays the possibility of any spillover and grater effects on the general economy.

“[the subprime meltdown] is certainly not expected to cause any great pain to the financial markets and shouldn’t bleed over to a great degree.”

Watch Robins spin on BNN!

Finally... Want to get cash out of your home without those pesky monthly payments and interest charges?

This CNBC segment features a new home equity product from Rex and Co. that allows homeowners to “borrow” against the future value of their home. That’s right! You get cash now, no payments and when you sell, you return the favor.

Watch and learn at BNN!

BNN - MUST SEE TV!

Today brings four great additions to the BNN lineup, most notably, a Bloomberg interview with David Seiders, Chief Economist of the National Association of Home Builders.

It seems Seiders is now presenting a significantly more Bearish outlook for the new home market suggesting that 30% of home builders surveyed are now suggesting that they are feeling a weakening of sales related to the tightening of lending standards.

“I was surprised… I got about a third of the respondents saying yes [that they were being effected by tightening lending] and of them… among them, a median hit on sales of about 10 percent.”

Watch Seiders turn Bearish on BNN!

Next up there is a great “point – sort of – counterpoint” between Economist Dean Baker and David Michonski, CEO of Coldwell Banker Hunt Kennedy.

Michonski, apparently suffering from all the bad news lately, has a hard time living in the here and now as he suggests that housing supply currently “balanced” and that he expects national median home prices to be up 4% by the end of 2007 and beyond putting an end to all the hubbub over the housing decline.

Watch Michonski delude himself some more on BNN!

Next, although the Fed’s Moskow doesn’t see the subprime slime spilling over to the general economy, CNBC’s Steve Leisman presents findings from a recent “risk conference” that seemingly draws an analogous “easy lending” relationship between the mortgage market and corporate derivatives.

Two other experts, who are both calling for significant spillover and looming recession, discuss the latest developments concerning Morgan Stanley’s recent decision to sell roughly $2.5 billion of New Century Financial mortgages.

Watch the sub-prime slime continue on BNN!

Finally, a nearly perfect example of CNBC “blathering clueless” as they try desperately attempt to understand the month by month changes in the housing market.

Diana Olick was so “Shocked” by the February’s New Home Sales report that her eyebrows were seen raised in surprise after the announcement.

Add to that UBS analyst Margret Whelan’s suggestion that for new homes, the spring selling season is already over (as Bob Toll previously discussed at length) and it’s just about all the two anchor-girls could take… “Come on! It’s not even April yet!” What’s a bull to do?

Watch CNBC Bulls Look Confused on BNN!

housing+bubble housing bubble realtor Seiders NAHB Bob+Toll Greenspan Bernanke real+estate economy CNBC recession home+sales

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Move Over Sub-Prime

With all the news lately concerning the sub-prime meltdown and its considerable effects on commercial (private and public) lending institutions it’s easy to forget that nearly 50% of all mortgage debt is held by the two main government sponsored enterprises (GSEs) Fannie Mae and Freddie Mac.

These two organizations, though purportedly operating both to the benefit of the public and within certain constraints not required by commercial lenders are not immune from the very same risks that commercial lenders face when managing a large portfolio of debt.

To the contrary, it appears quite possible that because of the GSEs special status and federal entanglement, they may actually be presenting a greater risk of failure, and the possible systemic fallout that could follow, than any of the larger commercial lenders.

Although the GSEs don’t technically write sub-prime or alt-A loans and restrict their lending activities exclusively to conforming loans, they have not been immune from the current culture of excessive lending.

It’s important to note that nearly 6% of GSE debt is composed of ARM loans.

Additionally, at least 3% of GSE fixed and adjustable rate loans have “interest only” options.

Furthermore, the OFHEO limit for conforming single family loan soared to a lofty $417,000 during the historic housing boom.

In a speech given last week, Federal Reserve Chairman Bernanke suggested that the GSEs have taken on more risk than typical commercial lending institutions, function with far less “market force” scrutiny than comparable commercial lenders and don’t even fulfill the public objectives set out for them by the federal government.

“The regulatory framework under which the GSEs operate has two principal objectives: first, to support the GSEs’ mission of promoting homeownership, especially access to affordable housing; and second, to ensure that these two companies operate in a financially prudent manner.”

“This line of business [the GSEs] has raised public concern because its fundamental source of profitability is the widespread perception by investors that the U.S. government would not allow a GSE to fail, notwithstanding the fact that--as numerous government officials have asserted--the government has given no such guarantees.”

“Consequently, the GSEs’ ability to borrow at a preferential rate provides them with strong incentives both to expand the range of assets that they acquire and to increase the size of their portfolios to the greatest extent possible.”

“… they [GSE Portfolios] are not only large but also potentially subject to significant volatility and financial risk (including credit risk, interest-rate risk, and prepayment risk) and operational risk. Many observers, including the Federal Reserve Board, have expressed concern about the potential danger that these portfolios may pose to the broader financial system; that is, the GSE portfolios may be a source of systemic risk. … with possibly serious implications for the performance of the broader economy.”

“Unlike other private firms, however, the GSEs face little or no market discipline from their senior debt holders because of the belief among market participants that the U.S. government will back these institutions under almost any circumstances.”

“… because of both regulatory requirements and the force of market discipline, banks hold much more capital than GSEs hold. The very largest bank holding companies generally hold equity capital equal to 6 percent or more of assets, and the largest regional banks generally have capital ratios of about 8 percent. (As I am sure you are keenly aware, community banks often have a capital-to-assets ratio exceeding 10 percent.) In comparison, the GSEs hold capital equal to roughly 3.5 percent of assets. The justification for the low capital holdings of GSEs relative to banks is unclear.”

“However, evidence that Fannie and Freddie have had beneficial effects on the supply of affordable housing (over and above the benefits of their securitization activities for the mortgage market as a whole) has been difficult to find. After conducting several studies of the effects of GSEs on the mortgage market and establishing the GSEs’ disappointing results”

housing+bubble housing bubble bernanke Federal+Reserve greenspan economy recession GSE fredddie+mac fannie+mae loan lending lenders subprime ARM

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