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U.S. Weighs Takeover of
Two Mortgage Giants
By STEPHEN LABATON and STEVEN R. WEISMAN
Published: July 11, 2008
http://www.nytimes.com/2008/07/11/business/11fannie.html?th&emc=th
WASHINGTON — Alarmed by the growing
financial stress at the nation’s two
largest mortgage finance companies,
senior Bush administration officials are
considering a plan to have the
government take over one or both of the
companies and place them in a
conservatorship if their problems
worsen, people briefed about the plan
said on Thursday.
The companies, Fannie Mae and Freddie
Mac, have been hit hard by the mortgage
foreclosure crisis. Their shares are
plummeting and their borrowing costs are
rising as investors worry that the
companies will suffer losses far larger
than the $11 billion they have already
lost in recent months. Now, as housing
prices decline further and foreclosures
grow, the markets are worried that
Fannie and Freddie themselves may
default on their debt.
Under a conservatorship, the shares of
Fannie and Freddie would be worth little
or nothing, and any losses on mortgages
they own or guarantee — which could be
staggering — would be paid by taxpayers.
The government officials said that the
administration had also considered
calling for legislation that would offer
an explicit government guarantee on the
$5 trillion of debt owned or guaranteed
by the companies. But that is a far less
attractive option, they said, because it
would effectively double the size of the
public debt.
The officials also said that such a step
would be ineffective because the markets
already widely accept that the
government stands behind the companies.
The officials involved in the
discussions stressed that no action by
the administration was imminent, and
that Fannie and Freddie are not
considered to be in a crisis situation.
But in recent days, enough concern has
built among senior government officials
over the health of the giant mortgage
finance companies for them to hold a
series of meetings and conference calls
to discuss contingency plans.
A conservatorship or other rescue
operation would be the second time in
four months that the Bush administration
has stepped in to engineer a rescue to
prevent the financial system from
collapsing. Last March, it forced the
sale of Bear Stearns to JPMorgan Chase
to avert a bankruptcy of that venerable
investment house.
Officials have also been concerned that
the difficulties of the two companies,
if not fixed, could damage economies
worldwide. The securities of Fannie and
Freddie are held by numerous overseas
financial institutions, central banks
and investors.
Under a 1992 law, Fannie or Freddie
could be put into conservatorship if
their top regulator found that either
one is “critically undercapitalized.” A
conservator would have sweeping powers
to overhaul them, but would not have the
authority to close them.
The markets showed fresh signs on
Thursday of being nervous about the
future of the companies. Their stock
prices continued a weeklong slide,
hitting their lowest level in 17 years.
The debt markets, meanwhile, pushed up
the two companies’ cost of borrowing —
their lifeblood for buying mortgages.
The companies are by far the biggest
providers of financing for domestic home
loans. If they are unable to borrow,
they will not be able to buy mortgages
from commercial lenders. In turn, that
would make it more expensive and
difficult, if not impossible, for home
buyers to obtain credit, freezing the
United States housing market. Even
healthy banks are reluctant to tie up
scarce capital by offering mortgages to
low-risk home buyers without Fannie and
Freddie taking the loans off their
books.
Together the two companies touch more
than half of the nation’s $12 trillion
in mortgages by either owning them or
backing them. They hold more than $1.5
trillion of the mortgages as securities.
Others are sold to investors in the form
of mortgage-backed bonds.
In recent weeks, the companies have
spiraled downward, undermined by
declining confidence in their future and
shaken by sharp declines in their assets
as the housing markets have continued to
slide and foreclosures have risen.
In the last week alone, Freddie has lost
45 percent of its value, and Fannie is
off 30 percent. Expectations of default
at the companies have also risen; it
costs three times as much today to buy
insurance on a two-year Fannie bond as
it did three years ago.
Analysts expect the companies to
announce a new round of write-downs and
possibly be forced to raise capital by
issuing additional shares, which would
dilute their value for current
shareholders.
Despite repeated assurances from
regulators about the financial soundness
of the two institutions, financial
markets have concluded that by some
measures they are deeply troubled.
Freddie, for instance, is technically
insolvent under fair value accounting
rules, in which the company puts a
market value on assets as if it had to
sell them now.
Although Treasury Secretary Henry M.
Paulson Jr. and Ben S. Bernanke, the
chairman of the Federal Reserve, passed
up invitations by lawmakers on Thursday
to seek legislation to deal with the
crisis, officials said that the
administration had been privately
considering a government takeover should
the markets continue to turn against the
companies.
At a hearing of the House Financial
Services Committee on Thursday, both Mr.
Paulson and Mr. Bernanke were guarded,
carefully trying not to say anything
that could further erode confidence in
Fannie and Freddie. They both said that
the regulator of Fannie and Freddie had
found that they were, in the words of
Mr. Paulson, “adequately capitalized,”
meaning that they had sufficient cash
and other assets to withstand the
turbulence in the markets.
“Fannie Mae and Freddie Mac are also
working through this challenging
period,” Mr. Paulson said.
Neither official would address a
question posed by Representative Dennis
Moore, Democrat of Kansas, who asked
whether the failure of either
institution would pose a risk to the
financial system.
“In today’s world I don’t think it is
helpful to speculate about any financial
institution and systemic risk,” Mr.
Paulson said. “I’m dealing with the here
and now, and the important role that
they’re playing and other financial
institutions are playing.”
Mr. Bernanke said that Fannie and
Freddie “are well-capitalized in the
regulatory sense” but added that they,
and other major financial institutions,
needed to raise their capital levels
further.
Despite repeated denials by officials in
the Bush and prior administrations,
financial markets have long assumed the
government would stand behind Fannie Mae
and Freddie Mac in times of difficulty,
both because they are integral to the
housing and financial markets and
because the companies have a line of
credit to the Treasury.
But Congress set that credit more than
38 years ago, long before the companies
rose to such size and prominence, and
its limit, $2.25 billion for each, has
become a tiny fraction of the companies’
overall debt.
Some analysts have begun to propose that
the Fed also permit the two companies to
borrow from it, as Wall Street
investment banks began doing after the
rescue of Bear Stearns. But there is no
indication that the Fed is contemplating
such a move.
On Thursday, the rapid sell-off of
shares of Fannie Mae and Freddie Mac
came after a former central banker made
comments that the companies might not be
solvent, and an analyst at UBS issued a
report critical of Freddie Mac.
The turmoil also shook the debt of the
companies, with one main measure
indicating that their cost of borrowing
has risen to the highest level since
mid-March, when the government rescued
Bear Stearns. Throughout the day, senior
officials sought to reassure the markets
about the financial health of Fannie and
Freddie.
Later in the afternoon, James B.
Lockhart, the regulator who oversees the
two companies, issued a statement that
his agency was carefully watching the
companies’ “credit and capital
positions” and said that they were
adequate to get through the current
turmoil.
Fannie Mae issued a statement saying
that it remained financially strong.
“Our company has raised more than $14
billion in capital since November 2007,
including $7.4 billion most recently in
May,” the company said. “As our
regulator has stated, and has reiterated
in public statements this week, we are
adequately capitalized.”
Sharon McHale, vice president for public
relations at Freddie Mac, said: “Our
regulator has emphasized that we have
continued to maintain the highest
capital rating, and we are in the market
every day. We’ll continue to do so.”
Shares of Freddie Mac plunged more than
30 percent and Fannie Mae’s more than 20
percent in the first hour of trading on
Thursday. By the close of trading,
Fannie shares had fallen nearly 14
percent, and Freddie shares had dropped
22 percent. It was the second straight
day of declines for the companies.
While their stocks trade on the New York
Stock Exchange, Congress created the two
companies to promote housing, and the
marketplace has long come to believe
that they would be bailed out should
they become insolvent. They hold a far
lower level of capital than banks do. In
recent years, they have both suffered
from accounting scandals and management
shake-ups.
Neither Mr. Paulson nor Mr. Bernanke, at
the hearing on Thursday, would answer a
question about whether Congress needs to
give the regulators more tools to deal
with the possible insolvency at either
company.
“I don’t think we should be speculating
or talking about what-if’s with any
particular institutions, and so with
Fannie or Freddie, what I’m emphasizing
is that the tool that I want is the
reform and the reform legislation that
would inject confidence into the
marketplace,” Mr. Paulson said,
referring to a measure that would revamp
the oversight of the companies.
The problems of the two companies
spilled onto the campaign trail on
Thursday when Senator John McCain, the
presumptive Republican nominee for
president, said he supported federal
intervention to save Fannie or Freddie
from collapsing.
“Those institutions, Fannie and Freddie,
have been responsible for millions of
Americans to be able to own their own
homes, and they will not fail, we will
not allow them to fail,” Mr. McCain said
during a stop at the Senate Coney Island
Restaurant in Livonia, Mich. “They are
vital to Americans’ ability to own their
own homes. And we will do what’s
necessary to make sure that they
continue that function.”
Jason Furman, the economic policy
director for the Democratic presidential
campaign of Senator Barack Obama of
Illinois, said that Mr. Obama “believes
the Bush administration’s willful
neglect of warning signs in housing, in
financial markets and in the job market,
have compromised the nation’s housing
finance system.”
“The challenges facing Fannie and
Freddie are part of the broader weakness
in our economy,” Mr. Furman said.
Senator Charles E. Schumer, Democrat of
New York and chairman of the Joint
Economic Committee, said that the
markets should rest assured that the
mortgage giants have a “federal
lifeline” and would not be allowed to
fail — though he said he thought a
government rescue would not be needed
and should be a last resort. |
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