Everyone else is writing about Fannie Mae and Freddie Mac so I figured I would as well. The two companies play a central, indeed, the central role in the mortgage marketplace. They don't make mortgages. They buy mortgages from originating banks and repackage them as bonds or keep them on their own balance sheets. The ones they package and sell are guaranteed by FNM or FRE for a fee. Between the two functions the companies touch over $5 trillion in mortgages. They do this with a far skinnier equity base than any other financial institution. Since they were always considered too big to fail and would be bailed out by the government in a time of trouble they have been able to borrow at lower interest rates than others.
Well, they got in trouble and the government is bailing them out. To oversimplify it, the companies have too little capital to handle the growing number of troubled mortgages they either own or guarantee. Without getting into details, the mortgages they are involved with are not sub prime, and are of generally very good quality. But in tough times even good loans go bad. If you take just the mortgages they own you come to a total of $1.7 trillion supported by core capital of about $70 billion. That is a leverage ratio of 24 to 1. Throw in the guaranteed stuff and you balloon to 68 to 1. You can have a very good book of mortgages with a very low default rate and still be out of business quickly with that leverage. It's lunacy.
The Treasury Secretary announced Sunday night that the companies can borrow from the NY Federal Reserve bank. FNM and FRE have access to the "discount window." They will pledge collateral for the loans. Secretary Paulson also said the government will pursue increasing the existing modest credit line the companies enjoy and will consider an equity investment. I figure the companies will try to raise capital themselves because if the government comes in with equity capital I hope it would be so dilutive as to ruin the existing common.
My guess is that this move buys time. The markets should settle down. A key indicator will be FRE's auction of three and six month paper early Monday morning. It should go off easily, but if it doesn't that would be a sign of big trouble. FRE's three month paper went out at 2.43% late Friday.
There are as many estimates as there are news articles this weekend as to what the level of losses might be as the housing market plays itself out. I have read everywhere from $20-30 billion to $100 billion. $20-30 billion the companies can handle. $100 billion needs a slug of capital, but the truth is no one really knows. I will mention that in the midst of Friday's chaotic marketplace, Smith Barney recommended buying both stocks. And, the Savings and Loan debacle of the late 1980's and early 1990's cost the government more than $100 billion. Not to minimize anything but there are solutions and "This too shall pass."
Why should future generations of Americans too young to vote be burdened with paying for the sins and indiscretions and pure greed of today's speculators and corporate fat cats?
There is no compelling reason in the name of Justice or Capitalism to bail out these firms. Those who are in business to make money and endure risk have made billions but now must pay the cost if their practices are slip shod, stupid and sloppy. Our economy will survive and good businesses will survive and improve if a message of consequences and accountability is made. If bail outs continue to become the practice in the American business model, we can expect higher taxes, lower standards, more corruption and a continually falling dollar and economy as investors lose confidence in the integrity of our businesses and economy.
Fannie Mae and Freddie Mac don't have the money to pay for the defaults on CMOs and CDOs that are comprised of prime mortgages, not subprime. People with good credit histories and documentation are not making their house payments.
Remember, we just hit the first wave of the resets. Next year we get the tsunami. To minimize the seriousness of this makes you sound like Gramm.
That said, I do believe all this talk of bailouts is simply buying time. When push comes to shove, we don't have the capital to do it. The Fed would need to pull all the money out of it's azz, and the hyperinflation from it would probably go global.
They might do it anyway. Because God forbid rich people lose any money, right? Only the little people lose money when they speculate, right?
Citibank can fail. Chase can fail. Fannie and Freddie CANNOT be allowed to fail.
There is simply no way to "save" a fiat money fueled hybrid ENRON/Ponzi scheme once it spins out of control.
Visualize hyperinflation: Argentina. Zimbabwe. The U.S.A.
Bankruptcy - The condition of being unable to pay debts.
Recent Ufo Report: Unapproachable Financial Obligation.
FORECLOSURES: You can get a list of major bank databases to foreclosure properties here: http://www.nancys-kids.com/reo.htm
Cox of the SEC is by far the worst. Chief of police belongs to mob!
The point is, even good mortgages can go bad when the economy tanks.
According to the Federal Reserve Flow of Funds Report, $10.5 trillion in mortgage debt is outstanding as of Dec '07. The total US housing market is worth around $22 - 24 trillion
If housing falls by 10%, we need a trillion or two. Given that oil prices are sky high, housing may fall 20%, we are looking at two to four trillion in losses that will have to shared by mortgage holders and consumers.
$100 billion is just a cakewalk compared to the trillions we will need.