US takes over Fannie, Freddie in bid to ease finance crisis

[Woodmonkey]

The U.S. government on Sunday seized control of mortgage finance companies Fannie Mae (FNM.N) and Freddie Mac (FRE.N) in an aggressive move to help the distressed U.S. housing market and economy.

Officials were concerned mounting losses at the two companies, which own or guarantee almost half of the country's $12 trillion in outstanding home mortgage debt, was sapping their vitality and threatening to undermine them at a time other sources of housing finance have largely run dry.

"Our economy and our markets will not recover until the bulk of this housing correction is behind us," Treasury Secretary Henry Paulson said at a news conference. "Fannie Mae and Freddie Mac are critical to turning the corner on housing."

The decision to take control of the companies, which have $1.6 trillion in debt outstanding, and place them into a conservatorship under their regulator could amount to the largest financial bailout in U.S. history. The Treasury Department, which is taking an equity stake in the two firms, said there was no reason to expect that taxpayers would have to shoulder losses.

The companies have suffered combined losses of nearly $14 billion in the last four quarters and large holders of their debt, including overseas central banks, have begun to show signs of increasing nervousness over their financial health.

"I strongly endorse both the decision by (Federal Housing Finance Agency) Director (James) Lockhart to place Fannie Mae and Freddie Mac into conservatorship and the actions taken by Treasury Secretary Paulson to ensure the financial soundness of those two companies," Federal Reserve Chairman Ben Bernanke said in a statement.

"These necessary steps will help to strengthen the U.S. housing market and promote stability in our financial markets," he said.

As part of the plan, FHFA will operate the companies until they are stabilized and the Treasury will extend financing until December 31, 2009, if needed.

In addition to the new financing facility, Treasury said it will take an equity stake in the two firms through senior preferred equity shares and warrants.

"Under the terms of the agreement, common and preferred shareholders bear losses ahead of the new government senior preferred shares," Paulson said.

Treasury also set up a program under which it would buy mortgage-backed securities currently held by Fannie Mae and Freddie Mac to pump fresh funds into the mortgage market. It said it would begin buying MBS later this month, and it would have authority to make such purchases through December 31, 2009.

The stocks of the two companies have fallen more than 90 percent in the past year and in recent months foreign investors have pared their holdings of the companies' securities.

Paulson said that Fannie Mae and Freddie Mac were so large that "a failure of either of them would cause great turmoil in our financial markets here at home and around the globe."

The Source

[Shooterman]

More of this 'too big to fail' crap. Bend over Mr and Mrs Taxpayer, and take it up the wazoo.

[Woodmonkey]

Mortgage Giant Overstated the Size of Its Capital Base
By GRETCHEN MORGENSON and CHARLES DUHIGG

The government’s planned takeover of Fannie Mae and Freddie Mac, expected to be announced as early as this weekend, came together hurriedly after advisers poring over the companies’ books for the Treasury Department concluded that Freddie’s accounting methods had overstated its capital cushion, according to regulatory officials briefed on the matter.

The proposal to place both mortgage giants, which own or back $5.3 trillion in mortgages, into a government-run conservatorship also grew out of deep concern among foreign investors that the companies’ debt might not be repaid. Falling home prices, which are expected to lead to more defaults among the mortgages held or guaranteed by Fannie and Freddie, contributed to the urgency, regulators said.

The details of the deal have not fully emerged, but it appears that investors who own the companies’ common stock will be virtually wiped out; preferred shareholders, who have priority over other shareholders, may also wind up with little. Holders of debt, including many foreign central banks, are expected to receive government backing. Top executives at both companies will be pushed out, according to those briefed on the plan.

While it is not yet possible to calculate the cost of the government’s intervention, it could rise into tens of billions of dollars and will probably be among the most expensive rescues ever financed by taxpayers. The takeover comes on the heels of a rescue of the investment bank Bear Stearns, which was sold to JPMorgan in a deal backed by taxpayer dollars. Already, the housing crisis has cost investors hundreds of billions of dollars.

Both presidential nominees expressed support for the government’s plans to take over the companies. The chief economic adviser to Senator John McCain, Republican of Arizona, who has long been critical of the mortgage giants, said on Saturday that Mr. McCain considered it an unfortunate but necessary step.

Senator Barack Obama, Democrat of Illinois, said as he campaigned in Indiana on Saturday that not acting could place the housing market in further distress. “These entities are so big and they are so tied into the housing market that it is probably true that we have to take steps to make sure they don’t just collapse,” Mr. Obama told an audience in Terre Haute, Ind. But he added that the government needed to take steps to guard against Fannie Mae and Freddie Mac ultimately profiting from the government assistance.

The big question now is whether the federal government’s move to take over Fannie and Freddie will restore investor confidence in the nation’s credit markets, help stabilize the stock market and keep loans flowing to creditworthy borrowers.

Fannie and Freddie, by buying mortgages, provide banks and other financial institutions with fresh money to make new loans, a vital lubricant for the housing and credit markets.

As a result of the government’s intervention, the cost of borrowing for Fannie Mae and Freddie Mac should decline, because the government will be standing behind their debts. Equally important, because the government is backing the companies, their buying and selling of loans will continue.

But the plan to bail out the firms will probably do little to stop home prices from falling further. And foreclosures are almost certain to rise.

Just a week ago, Treasury officials were still considering a wide variety of options for Fannie Mae and Freddie Mac, ranging from doing nothing to taking over the companies completely, according to people with knowledge of those discussions.

The Treasury secretary, Henry M. Paulson Jr., who won authority from Congress last month to use taxpayer funds to bolster the companies, always maintained that he hoped never to use that power. But, as the companies’ stocks continued to languish, some within the Treasury Department began urging Mr. Paulson to intervene quickly.

Then, last week, advisers from Morgan Stanley hired by the Treasury Department to scrutinize the companies came to a troubling conclusion: Freddie Mac’s capital position was worse than initially imagined, according to people briefed on those findings. The company had made decisions that, while not necessarily in violation of accounting rules, had the effect of overstating the firm’s capital resources and financial stability.

Indeed, one person briefed on the company’s finances said Freddie Mac had made accounting decisions that pushed losses into the future and postponed a capital shortfall until the fourth quarter of this year, which would not need to be disclosed until early 2009. Fannie Mae has used similar methods, but to a lesser degree, according to other people who have been briefed.

Representatives of both companies did not return calls or declined to comment.

On Friday, executives from Fannie Mae and Freddie Mac were ordered to appear in the offices of their regulator, James B. Lockhart, in separate meetings, and were told that the Treasury Department was exercising its authority to place the companies in conservatorship, which would allow for uninterrupted operation of the firms but would put them under the control of Mr. Lockhart.

The details of those plans continued to be worked out on Saturday, when the Federal Reserve chairman, Ben S. Bernanke, Mr. Paulson, Mr. Lockhart and key company executives met in Washington.

While Freddie Mac’s accounting woes make it easier for regulators to force the company into conservatorship, there was more resistance from Fannie Mae, according to people familiar with the discussions. However, given Fannie Mae’s declining financial condition, and the fact that even a slightly pessimistic statement from Mr. Paulson about the company’s finances would be likely to send its stock price into a tailspin, the company has few options but to concede to the government’s demands.

Both companies have the option of challenging the conservatorship and asking for a judicial review. Such a move, however, would probably be disastrous for their stock prices.

Accusations of improper accounting are not new for either company. Earlier this decade, both companies paid large fines and ousted their top executives after accounting scandals.

Freddie Mac’s current chief executive and chairman, Richard F. Syron, joined the company in 2003 after the former managers revealed they had manipulated earnings by almost $5 billion. The following year Fannie Mae’s chief executive, Daniel H. Mudd, was promoted to the top spot after that company was accused of accounting errors totaling $6.3 billion. People familiar with Treasury’s plan say that both men, as well as other top executives, will be forced to leave the companies.

The accounting issues that brought so much urgency to the bailout appear to center on Freddie Mac’s capital cushion, the assets that regulators require it to keep on hand to cover losses.

The methods used to bolster that cushion have caused serious concerns among the companies’ regulator, outside auditors from Morgan Stanley brought in by the Treasury Department and some investors. For example, while Freddie Mac’s portfolio contains many securities backed by so-called subprime and alt-A loans, which are one step up from the riskier mortgages, the company has not written down those loans’ values to reflect current market prices.

Executives have argued that because they intend to hold the loans to maturity, they need not write down their value. But other banks and financial institutions have written down the value of those securities, even if they continue holding them, under “mark-to-market” accounting rules. Freddie Mac holds roughly double the securities that Fannie Mae does.

Freddie Mac and Fannie Mae have also inflated their financial positions by relying on deferred-tax assets — credits that the companies have built up over the years that can be used to offset future profits. Fannie maintains that its worth is increased by $36 billion through such credits, and Freddie argues that it has a $28 billion benefit.

But such credits have no value until the companies generate a profit — something they have failed to do over the last four quarters, and something that is increasingly unlikely within the next year. Moreover, even when the companies’ profits soared, such credits were often unusable because the companies also had large numbers of affordable housing tax credits, which themselves offset profits.

One analyst estimates the companies, in the future, would have to collect roughly double the profits of the past five years for the credits to become usable. Most financial institutions are not allowed to count such credits as assets in the manner used by Fannie and Freddie.

Regulators and auditors may question the companies’ use of deferred-tax credits because they cannot be sold to anyone else and they would disappear in a receivership. And, if those credits were not counted as assets, both companies would probably fall below the capital threshold they are required to hold.

Finally, regulators are said to be scrutinizing whether the companies were trying to manage their earnings by maneuvering the timing of reserves set aside to offset losses from defaulted loans. Each quarter, both companies have gradually increased their loss reserves — Fannie’s reserves today stand at $8.9 billion, and Freddie’s at $5.8 billion. However, regulators and auditors felt strongly that both companies should have identified larger potential losses immediately, and set aside much more from the beginning.

Other companies, like private mortgage insurers, have identified much larger losses and have set aside much larger amounts of capital. Fannie and Freddie, however, have delayed the recognition of such losses, dribbling out bad news with each quarterly announcement, suggesting a strategy to manage the recognition of losses.

Finally, regulators are concerned that the companies have mischaracterized their financial health by relaxing their policies on when to recognize a loss on a defaulted loan, according to people familiar with the review. For years, both companies have effectively done that when a loan is 90 days past due. But, in recent months, both companies said they would extend that to two years.

As a result, tens of thousands of loans that previously would have been marked down have maintained their value. The companies have injected their own capital into pools of securities, arguing that new business policies are helping greater numbers of borrowers.

Under conservative accounting methods, such a change in policy should not have any impact on the companies’ books. However, people briefed on the accounting inquiry said that Freddie Mac may have been using their new policy to delay recognition of losses.

“We have just had to nationalize the two largest financial institutions in the world because of policy makers’ inaction,” said Josh Rosner, an analyst at Graham Fisher, an independent research firm in New York, and a longtime critic of the government-sponsored enterprises. “Since 2003, when these companies’ accounting came under question, policy makers have done nothing. Even though they had every reason to know that the housing market’s problems would not be contained to subprime and would bring down the houses of Fannie and Freddie.”

Reporting was contributed by Stephen Labaton and Edmund L. Andrews in Washington; Jeff Zeleny from Terre Haute, Ind.; and Elisabeth Bumiller from Colorado Springs.

The Source

[Woodmonkey]

Taxpayers to take hit for Fannie, Freddie

The US Treasury is poised to commit large sums – perhaps exceeding $100 billion – in its rescue of Fannie Mae and Freddie Mac, but the real cost to American taxpayers won't be known for years.

The tab will depend on how Washington runs these mortgage giants and how the housing market and economy perform.

A wide range of outcomes is possible, because the size of Fannie and Freddie is so large. With a $5 trillion book of home loans that they own, or have guaranteed, fractional changes in foreclosure rates can translate into tens of billions very quickly.

In a worst case, the cost could run well above the roughly $125 billion that taxpayers spent in the early 1990s to insure depositors in failed savings-and-loan institutions, some mortgage-market experts say.

In other scenarios the short-term infusion of cash might ultimately be recouped with little or no net cost to taxpayers.

What's clear is that every US taxpayer is now tethered directly to the troubled housing market. And the stakes are much higher than the $30 billion federal intervention to stave off bankruptcy at Bear Stearns earlier this year.

"This is Bear Stearns times 100 or Bear Stearns times 1,000," says Brian Battle, a vice president at Performance Trust Capital Partners, an investment firm in Chicago. How much taxpayers lose is "100 percent correlated" with the depth of the housing slump, he adds.

The more home prices fall, the higher foreclosure rates will become and the more losses will pile up at Fannie and Freddie. The less home prices fall, the less that any lender will lose when a loan defaults and the property is resold.

Fannie Mae and Freddie Mac are known as government-sponsored enterprises (GSEs), because they were chartered by Congress to create a more stable mortgage market. Over the past year, they have been fulfilling that mission, guaranteeing home loans or buying them outright. Amid a sharp decline in real estate sales and prices, investors have been willing to fund the so-called "conforming" home loans that carry a Fannie or Freddie imprimatur. That has helped keep mortgages relatively available and affordable.

But even though the GSEs were not conduits for the worst "subprime" lending, they are being hit by loan defaults, with Fannie and Freddie posting a combined second-quarter loss of $3 billion.

Their capital, the reserves available to cover future losses and continue funding new loans, fell to the point where the US Treasury Department intervened.

That followed a string of other federal actions in recent months. The Federal Reserve has loaned money to investment banks in addition to the $30 billion in credit it extended to facilitate the buyout of Bear Stearns by JPMorgan Chase.

Bank failures, after a long period of quiet, are rising. The Treasury's Federal Deposit Insurance Corp. could run through its insurance fund this year and may need additional money from the Treasury to protect insured depositors.

Now the Treasury is becoming an equity investor in Fannie and Freddie and a buyer of their mortgage-backed bonds.

The move is a bid to help restore calm to credit markets, possibly lowering the cost of mortgages and, by extension, helping the housing market recover. The more successful the effort is, the less it will cost taxpayers.

"The Treasury may have to put a couple hundred billion dollars into these [GSEs]," says Christopher Whalen, managing director of Institutional Risk Analytics, a firm that tracks the health of financial institutions.

But beyond the injections of capital to get through the current crisis, he says ongoing operations of Fannie and Freddie should reap profits for the Treasury – thus providing some long-term offset to the bailout's up-front costs.

"Hopefully the cost to the taxpayer will eventually be zero," he says. "It might even be positive. But it has to be done right."

Doing it right, in his view, depends on resolving the long-term structure of the two companies – a politically divisive issue that will be debated by Congress and the next president.

Mr. Whalen suggests that over time, the government should shed the large portfolios of loans that Fannie and Freddie currently hold. The GSEs should focus on their role as a conduit, guaranteeing loans for resale. If the fee for those guarantees is set right, it should be a profitable business – and he suggests that that business be nationalized.

Other finance experts and policymakers argue for other strategies, ranging from privatizing all GSE functions to nationalizing them as much larger entities than Whalen recommends. The Treasury's new "conservatorship" plan holds the door open to many options, including ultimately returning the companies to their former status as public-private hybrids – but with tighter regulatory supervision.

"In the short term, yes, a bailout's necessary," says Joseph Mason, a finance expert at Louisiana State University in Baton Rouge. "The question becomes, [is it] an opportunity to exit … the current egregious level of government involvement in housing finance?"

Others say the subprime lending debacle is evidence that a strong role for the government in housing finance remains needed. "Private securitization [of mortgages] in secondary markets is what caused this mess" in the real estate market, says Dan Immergluck, a housing expert at Georgia Tech in Atlanta.

Because the GSEs have long been viewed as having implicit federal backing, delaying or avoiding intervention might have added to the ultimate taxpayer tab.

The Source

[Carnage_59]

What really frosts my butt is the fact that the people running Fannie and Freddie are not being held responsible for their truly monumental f|_|ckups!!! The big shots were living high off the hog with limos, chefs and other royalty BS. Glenn Beck is blowing the lid off this.