Freddie Mac & Fannie Mae~~"Let them fail"

[Wilma]

I have to feel sorry for the people that were told that they qualified for a more expensive home than they could afford.  So many of them are not experienced or smart enough to think their way through finances.  They trust their real estate agent and their lending institution to tell them and of course they are going to go as far as someone will let them.  I guess that they do deserve to lose their home but the finance company deserves to get itself out of trouble, too.  Swim or sink.

[flo]

qualifying for an expensive home doesn't mean you can make that kind of payment required to get that loan.  And in addition to the amount they are paying for that home, the loan has an enormous amout of interest added to it.  These are things learned in high school - or should have anyhow.  Very few people can pay cash for their home, but they need to look at what amount of payments they can make and stick within that budget. 

[dnalexander]

I agree why should we have to bail out the homeowners or the lending companies that made these loans. If you can't pay for it you lose it or sell it. Buying a house is a big complicated legal and financial undertaking, you need to read the fine print and understand the consequences. Understanding the consequences brings me to why I am NOT positive that we should NOT bail out Freddie Mac and Fannie Mae. Between the two they own and or guarantee over $500 Trillion dollars in mortgages. Something more than half of all mortgages in the U.S. Countrywide and Citicorp take up most of the rest. Both of those financial companies are in a similar position. What are the economic consequences of not bailing out this boondogle. There are many more learned, and informed people than I that say we will destroy our already hurting economy. I don't know the solution but I will be researching it and analyzing it just to make sure that if we don't bail them out we don't tank the economy and if we do bail them out that we as taxpayers get our money back. I was against the government bailout of Chrysler for over a Billion dollars but Lee Iacocca was brilliant and payed it back sooner than agreed to and saved a good part of our jobs\economy. To sum it up I don't like the bailout but I want to research more what the consequences are if we don't..

David

[Diane Amberg]

     I had a long talk with Al out on the deck this morning about this very thing. He is a trustee for the New Castle County Pension Board that manages all the pension money....big bucks.~ He's the retiree rep. He understands this 'way more than I do and I'm pretty knowledgeable about it. It's a bit like putting a little hole in the bottom of a big boat that you own. You don't sink, but you sell the boat to someone else, they don't repair it either, so it still takes on water but doesn't sink yet and they sell it to someone else....eventually it will sink for whoever owned it last.  It's really a lot more complicated than that, because of changes in banking and accounting practices over the years.
      It all started years ago with people accepting that part of the American dream is to own a home. People went to their local bank and got a mortgage based on an intensive credit check by your bank. You had to have mortgage insurance and paid points and the bank had a big fund that we all paid into (banking fees) against failed loans. They know about how many loans will fail and they can be prepared and won't crash.  OK, so you've got your 30 year loan and you pay on it each month. The mortgage would sometimes go up a little depending on inflation.  Sometimes the paper is sold to someone else who services the loan, for a fee. Then comes along the balloon mortgage. You pay a little for several years and then there is a big jump in the payments. People who knew they would move in a few years, assuming their house would appreciate, paid the balloon when they took the profit from their house sale and moved on. Then comes a change in accounting standards. Some "banking type businesses" were able to attract people by making it look like you could afford more house than you really should, by skipping mortgage insurance, reducing fees and cutting their own "failure fund"....Then they sell the paper to someone else who was told it was a AAA loan but really wasn't because of fuzzy accounting practices. The paper seller doesn't care because he is no longer liable. Then the housing market slumps...that's a whole other problem...people lose jobs, etc. and suddenly they can't pay the bill. The whole tightly woven thing begins to unravel. Some of these places that caused the problem, Indy Mac, for one, really aren't ''banks" in the sense that you and I are used to. They act like a bank, but don't have the same rules as far as business practices and reserves same as a Saving and Loan is different from a Credit Union is different from a Federal Bank and Trust Company. It's very, very complicated, well beyond a simple Money, Credit and Banking class the average person would be exposed to. I can certainly see how some people can be fooled. I'm sure by the time you read all this your eyes have glazed over. So how do you think a good sales person with a big smile who says "Sure you can afford this, you deserve it.  I can make it happen for you" manages to sell it? Easy! 
When you buy a new car, price of the car isn't what you eventually pay.There are lots of other costs involved before you drive it away. But people see things differently from each other. If I was buying a brand new house, I would never have all the appliances included in the mortgage. Why, 25 years from now, would I still want to be paying for a contractor's grade refrigerator that I replaced 10 years ago? But people do it every day.
   As far as Fannie And Freddie are concerned, someone really needs to look into the accounting practices before things are done. Everyone uses various accounting "models" which will tell vastly different tales depending on how the numbers are averaged or "smoothed" over a period of time. Honestly, 1+1 does not always =2 in accounting. It depends on which column you put the numbers in! They are really being pressured and I hope nobody panics over this. I know our own big Wilmington Trust here in town recently increased their reserve fund by a huge number because of all this.

[Teresa]

Thank you Al.. and thank you Diane.. That really explains in layman's terms what could have been very confusing.
But I agree with everyone. No one bails out my business if it goes belly up.. and when I get a loan to pay for a house.. I make sure I can meet the payments. It isn't rocket science. It is .." If you can NOT afford it .. don't buy it!

[Diane Amberg]

Thanks Teresa. It's really even more complicated because of interest rate predictions, actuary tables and all that. It's kind of like the stock market. Anybody can buy a share of stock, but you really have to have a lot of detailed knowledge to get into futures and puts and takes, selling short and all that...a different level of knowledge is needed.
  It used to be if you wanted to start a business you presented your case to your local bank. If they didn't think it was a good idea, or you had money problems in your past, or you had no collateral, the local bank simply wouldn't loan you the money, period. OK, now days the person goes to another source for the money, maybe even online, but it's much riskier. Then the paper is sold and down the line it goes. It appears that it's the secondary markets that are causing a lot of this, again because of the way the numbers are juggled and the numbers are so huge it's hard to digest. If a group buys a "bundle" of mortgages, there may be some very bad ones in there. You see it too....No money down! Bad credit, no problem! No collateral, no problem! Then they sell the paper. Of course there are lots of ways of getting money.That's what venture capitalists do. They loan out the money privately, no bank involved. Big bucks to be made, but big risks too. People who decide to sell a home and hold the mortgage themselves face the same problem. If they are using the mortgage payment from the house they sold, to pay for the house they are now live in, it can work very well... unless something goes wrong and the 1st people suddenly can't make the payment to you. You are stuck too ! Some people are willing to take that risk. No, I don't want to pay for those mistakes either. But it's all tied in with big, big business and right now our government is all about supporting big business. David, if your research turns up more, please write it. I've only skimmed the surface.

[Diane Amberg]

As if I haven't already beaten this to death, I'll post one more time and then shut up so someone else can have at it. I've been doing more reading on all this and I can't help thinking that if our folks in Washington would just simmer down some, Fannie and Freddie would sort themselves out and wouldn't need a bail out. I'm not sure what the big rush is. I reread some articles we have from Vanguard and I'm thinking time will cure some of this. Things are already loosening up a little. Or perhaps we should revisit the repeal of Glass/Steagall. I'm done.

[frawin]

I thought this was a good article to show the size and magnitude of the Fannie Mae and Freddie Mac mess. Diane, no offense but Iin West Texas, Oklahoma and Kansas I have bought considerable homes/properties and I never borrowed from a bank and I don't know anyone that has, I have always used a Home/ Land  Loan/Mortgage type loan institution. Banks, or at least it has been my experience,typically can't stomach long term, 30 year type loans. I realize that the "energy crisis" has caused a lot of people to loose their jobs and for those that haven't, especially young people with little or no cushion in savings, it has become difficult to keep up home payments, car payments and feed the family, if that is the case I understand and feel that we should help them. My main complaint and concern is those that just simply overbought thinking they would earn more, or with inflation the payment would be less of their budget portion or they took adjustable rate mortgages( I never like the idea of adjustable rate mortgages as I thought it was a gamble not worth taking) in summary bad judgement got them in trouble. Most of the Loan companies I dealt with over the years were very careful to follow the guidelines in determing the amount of money that they would loan an individual, they considered his credit history, current debts, job security in his work line and the house price verses the area and the house condition, i.e., reapirs needed etc. I think alot of the problem goes back to all of the jobs that have been shifted to India, China, the Middle East and South American countries, we have taken millions of entry level jobs from this country and as a consequence we are having to pay for the cheap goods and services by increased unemployment, a weaker dollar and a failing economy.

The $5 trillion mess
Fannie Mae and Freddie Mac were created by Congress to help more Americans buy homes. Now their shaky condition threatens the entire housing market.
By Katie Benner, writer
Last Updated: July 14, 2008: 1:16 PM EDT


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NEW YORK (Fortune) -- They own or guarantee $5 trillion worth of mortgages­ - nearly half of all the country's outstanding home loan debt - and they're crashing. But not everybody is convinced they should be.

Fannie Mae and Freddie Mac are struggling with an investor loss of confidence so great that, while they're unlikely to go under, they could conceivably see their ability to function impaired. That would wreak yet more havoc on an already wrecked housing market - making loans tougher to come by and possibly pushing hundreds of billions of dollars in cost onto U.S. taxpayers.

The extent of their troubles is in debate. Several analysts and a former Federal Reserve governor have said the two companies desperately need to raise money to continue their business of buying and guaranteeing home mortgages.

Others, including Fannie and Freddie, their regulators, some Wall Street analysts, and Sen. Christopher Dodd, D - Conn., the chairman of the Senate Banking Committee, have defended the strength of the two companies.

"What's important are facts - and the facts are that Fannie and Freddie are in sound situation," Dodd said on CNN's Late Edition on Sunday. "They have more than adequate capital. They're in good shape. The chairman of the Federal Reserve has said as much. The Secretary of the Treasury has said as much."

The Treasury Dept. and the Federal Reserve on Sunday outlined plans that would provide capital to Fannie and Freddie if it were needed.

Still, inherent problems
How could the companies end up in such awful straits? Given the way they were created and run, a better question might be: how could they not?

The two companies are so-called government-sponsored enterprises, created by Congress in 1938 (Fannie) and 1970 (Freddie) to help more Americans buy houses.

Their mandate is to maintain a market for mortgages - buying loans from banks, repackaging them as bonds, and selling those securities to investors with a guarantee that they will be paid.

This makes lending more tempting for banks because Fannie and Freddie take on risks like missed payments, defaults and swings in interest rates.

But the companies are also publicly traded, with the usual mandate of trying to maximize profits for shareholders.

That effort, of course, involves risk, but as quasi-government programs, they've long carried an implicit guarantee that the feds wouldn't let them fail.

Their hybrid nature created both the opportunity and the temptation for the enterprises to take on more risk and to make themselves ever larger, more important and thus more profitable players in the mortgage market.

Very special treatment
The market and ratings agencies have treated Fannie and Freddie as bulletproof, even though the actual business of dealing with interest sensitive loans is very risky. This is in large part because of the very special perks granted to the mortgage giants, but to no one else.

Each may borrow up to $2.25 billion direct from the Treasury. They are exempt from state and local income taxes and from Securities and Exchange Commission registration requirements and fees. And they can use the Federal Reserve as their bank.

One result of all this special treatment was AAA credit ratings. That means Fannie and Freddie could borrow at super-low rates, a benefit they used to purchase - and hold -high-yielding mortgage loans. The spread between the two provided an irresistible earnings stream and the companies just kept getting bigger.

The mortgages they hold on their books alone total about $1.4 trillion, said Mike Stathis, managing Principal of Apex Venture Advisors, a research and advisory firm.

In the meantime, the companies were allowed to operate in this manner, piling on risk after risk, with virtually no capital cushion (Wall Street speak for the rainy-day piggybank financial companies keep should one of their investments blow up.) As the company's loan portfolio loses value and the mortgage market continues to crumble, it's easy to see why this was a fatal misstep.

Some saw the crisis coming before this week. For example, Alan Greenspan famously warned in 2004 that Fannie and Freddie's rapid growth needed to be curbed because their expansion threatened the financial markets.

Still, the cocktail of high credit ratings, domination of the mortgage securities market, and preferential government treatment led to the sort of shenanigans that go hand in hand with excessive privilege.

Fannie overstated its earnings by $10.6 billion from 1998 through 2004, and its chief executive Franklin Raines lost his job. Freddie Mac had understated its profit by nearly $5 billion from 2000 through 2002. Both companies missed earnings filings while they overhauled their books.

"If Fannie and Freddie had been created in the private sector, they wouldn't look like this," says Christopher Whalen, head of research firm Institutional Risk Analytics. "They have a public sector mission to expand housing and run what is essentially an insurance company. But they also have a conduit to securitize and sell loans, which is what broker-dealers like Lehman do; and they have an interest arbitrage piece (making money on the spread between interest rates) that looks like a hedge fund."

Robert Rodriguez, the founder of First Pacific Advisors, hasn't bought Fannie for Freddie bonds for over two years. "With the recent issuance of their financials, we were still uncomfortable with their leverage," Rodriguez says. "We believed there was considerable balance sheet risk in both of these companies.

Now the dwindling pool of mortgages, higher foreclosure risk, and a shaky interest rate environment have the companies on the ropes; and investors are beginning to lose faith in Fannie and Freddie.

Both firms told Fortune that they have enough capital to weather the storm and continue to support the nation's housing market.

And yet, Fannie has fallen 32% this week and 65% since the beginning of the year. Freddie plunged 47% so far this week and is down 75% since January.

Investors have lost faith that the companies can operate in their current incarnation without running into major problems.

If investors abandon these companies, what do we learn from this odd Frankenstein of a business model?

"Nobody ever believed that Fannie and Freddie were truly private and they never should have been," says Whalen. "Now we will all have to pay for a company that has gone astray."

First Published: July 11, 2008: 10:22 AM EDT

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[Diane Amberg]

No offense taken by any means. I like what you wrote. It's a very good extension beyond what I wrote and I don't disagree. Unfortunately an awful lot of people aren't as careful as you folks are and frankly aren't as bright either. Most "lending institutions" are fine, but have different rules and not as many regulations. As you said, to make it easier for people to buy a home. But they may be more sensitive to crisis, especially if they have paper that someone "created" to look sound but isn't. Plus there is such a disparity in housing values. Howard houses here would cost more than $100,000.00. It's totally artificial of course. Folks  in a lot of areas got into houses by the skin of their teeth, just being able to make the payments, with two incomes. Then jobs are lost, the economy shifts, utilities and gas go up and suddenly they are in trouble. I know I started learning about money early, Daddy taught me. I bought stocks when I was still in high school and bought into my first mutual fund when I got my first teaching job. I've always been careful. When we bought our first little house in 1971, we were able to take over an old 5 3/4 % mortgage when a new mortgage would have been much, much higher. We lived on beans that year, but it worked out well. The other problem I know older people have is interest rates being so low. You plan and save for years and years and with pension, social security and interest and you think you've got it under control and wham, it falls apart. Oops, I'm rambling. Sorry!

[Diane Amberg]

 I've been reading Al's "Pension and