Freddie and Fannie assets are leveraged 80+ times their capital. This will get worser if Bush’s economic stimulus plan increases the maximum loan size they can buy. In comparison, at its peak, Long Term Capital Management’s leverage was about 50 to 1. LTCM had other advantages like little or no regulatory overheads, no social welfare objectives, strategy flexibility, etc. What is your take on the future of Freddie / Fannie. Will they fail ? I am guessing, they will become the sacred ‘white elephants’ , producing nothing and living on the taxpayers money (like the public sector companies in India and China) for the next few decades.
White elephants? Those two agencies have contributed a staggering amount to the process of mortgage securitization and the well-being of the US. As for them failing, the stock market still thinks that FNM is worth $35 B (or something too lazy to look it up). If I thought they would fail, I would be loading up on puts.
Related to this, I thought this was an interesting read from the San Fran Chronicle: http://www.sfgate.com/cgi-bin/article.cgi?f=/c/a/2008/02/03/IN8LUO095.DTL&ref=patrick.net
On the other hand, you get a 2 BR/1 Bath condo around here for $700K and nothing for $420K so it’s not an especially bad idea absent all this other stuff.
you gotta remeber lockharts comments are driven in part by a fundamental partisan opposition to the GSEs. also let’s make sure we understand the stats we are quoting. 80:1 is the total mortgage book of business to fair value of equity. total book of business includes retained portfolio assets and outstanding MBS that the gse’s guarantee. the comparion to LTCMs leverage is pretty flawed.
Comparing LTCM to Fannie mae and freddie mac is amateur, especially when you simply highlight with one metric. LTCM is often paraded around by individual with a tisk tisk mentality, but they changed the trading world forever with their extensive use of complex valuation models combined with automated systems to make trading the mathematical practice it is today. Before LTCM, trading was largely dominated by qualitative style based ivy leage frat boys. Secondly, LTCM and the other two organizations have little in common in terms of investments, strategy, and overall structure. If you’re unclear on that read, “when genious failed.” It’s a great book. Anyhow, you simply cannot compare firms on a will they fail basis from different industries on one basic metric.
Freddie/Fannie have made phenomenal contribution to US housing market - no doubt. My question is what about its *future* They are unable to smoothly absorb a paltry <10 billion losses. What happens, let us say, if the credit losses go up to 250 billion (10% of over 2.5 trillion guaranteed). …250 billion credit loss is about 100k loss per home for 2.5 million homes – not an impossible proposition. Big Nodge, The 80:1 ratio will come down to about 60:1, if we consider only the guaranteed assets – still the theme remains the same – leverage that can kill in a down market. Blackswan, Agree, comparing LTCM and Freddie/Fannie on a single metric is not appropriate. Let us leave that aside. Do you think, Freddie/Fannie’s fundamentals would allow it to survive the housing bubble burst. Or it will sink like the Titanic (ha… avoiding comparing it to LTCM :)-
Well you always here that the Gov’t will bail out them if they were to fail. Could anyone expand on what you mean by the GSE’s total book of business?
busy_people Wrote: ------------------------------------------------------- > Freddie/Fannie have made phenomenal contribution > to US housing market - no doubt. My question is > what about its *future* > > They are unable to smoothly absorb a paltry <10 > billion losses. What happens, let us say, if the > credit losses go up to 250 billion (10% of over > 2.5 trillion guaranteed). > > …250 billion credit loss is about 100k loss per > home for 2.5 million homes – not an impossible > proposition. > > Big Nodge, > The 80:1 ratio will come down to about 60:1, if we > consider only the guaranteed assets – still the > theme remains the same – leverage that can kill in > a down market. > > Blackswan, > Agree, comparing LTCM and Freddie/Fannie on a > single metric is not appropriate. Let us leave > that aside. > > Do you think, Freddie/Fannie’s fundamentals would > allow it to survive the housing bubble burst. Or > it will sink like the Titanic (ha… avoiding > comparing it to LTCM :)- I don’t know, be careful, their actual delinquency rate may triple from the current 0.06% rate all the way up to 0.18%…
total book of business is how the GSEs refer to the total mortgage portfolio to which they have some sort of exposure. GSEs business takes on two primary forms, the retained portfiolio business (about $700bn at each) where they purchase MBS, whole loans, and other securities and manage the interest rate and credit risk in the portfolio, and the guarantee business, where they provide a credit guarantee to MBS that are either retained in their portfolio or sold to outside investors (between $1.3 ~ $2 trillion). They receive a fee, which they call a g-fee, for providing this guarantee. Their regulator, OFEHO, assings a capital requiremet for each business, 2.5% for the retained portfolio and 45bps for the outstanding MBS that they guarantee (also currently requires an additional 30% on top of the sum). Clearly the risk is much lower for the guarantee business, as they are exposed only to credit risk on conforming loans, which are prime, less than $417k, and have reasonable LTVs. For the retained portfolio they bear all the risk, i.e. credit, interest rate, prepayment etc, so the capital charge is higher. I think that, obviously, these guys will report awful 4qs and rocky 2008s and the stocks will probably fall from here, although this may be a decent long-term entry point. I will look at them if / when they fall well below book value and after dilutive capital raises that may well come after 4q. That being said, I think longer-term their fundamentals are improving as their market shares will continue to skyrocket after being pushed way down by wall st and other private label players in the RMBS market. mortgage market in general will trend back towards conventional, fixed rate product and g-fees are inceasing, although obviously this is comensurate with credit risk. further, we will likely see a democratic administration in the white house and historically they have been much more GSE-friendly. 10% losses seem a bit draconian given the historical 3 to 4 bps loss rates. I won’t argue that things will get much worse but that would be something like a 20000% increase in losses.
Both Freddie and Fannie are selling below their book value…
Big Nodge Wrote: ------------------------------------------------------- > > 10% losses seem a bit draconian given the > historical 3 to 4 bps loss rates. I won’t argue > that things will get much worse but that would be > something like a 20000% increase in losses. The credit loss rate has climbed to 23 bps, 460% up.
Big Nodge Wrote: ------------------------------------------------------- >I think longer-term their fundamentals are improving Big Nodge does it again.
Nice assessment Big Nodge. I agree, that while the guarantee business will likely reverse and be a key catalyst in a price reversal. I don’t see the MBS backed by conforming loans actually having any significant increase in defaults and delinquencies relative to historical slowdowns. I’ve always said that Fannie and Freddie were victims of circumstance and those sub prime barrowing/lending idiots. Valuations and perceived credit risk are what is killing their balance sheets. People making conforming loan payments are not going to default or become delinquent at much higher rates than during slowdowns in the past. They are going to ride this thing out, waiting for valuations on their properties to come back, and preserving their credit scores. Theoretically, spreads will come back and Fannie and Freddie portfolio values will expand relieving their solvency problems. If they can afford to get by without raising fresh capital, they should. I believe people buying them today will be handsomely rewarded. One thing I’m not clear on is Fannie’s and Freddie’s exposure to non conforming product. Anybody know?
FYI I was being sarcastic.
FNM and FRE common is dead. They have destroyed the U.S. housing market.
cfa_gremlin Wrote: ------------------------------------------------------- > FNM and FRE common is dead. They have destroyed > the U.S. housing market. Completely general and baseless statement?
General and baseless? Tell me how FRE and FNM have helped the housing market? This is not a trick question. And yes, their common is a zero.
FNM and FRE have not helped the housing market? That’s very silly. Of course they have which is why they will continue to exist (the equity may still go to 0).
People that think that FNM and FRE have helped the housing market are not seeing the bigger picture. FNM and FRE are the primary reasons why housing prices and the housing market are where they are right now. Unbridled lending led to this epic housing and credit bubble and FNM and FRE were right there providing the liquidity backstop for speculators to continue to bet on rising prices even though there is no way that those prices were affordable for the average U.S. citizen. FNM and FRE were created for housing to become more affordable for the average U.S. citizen. Statistics show that they have saved an average of 11bps to the ordinary homebuyer. LOL. Their executives reap millions and CONgress cronies swim in their lobbyist contributions while housing prices have skyrocketed. And don’t talk about conforming mortgages: FNM and FRE were created to originate and guarantee 15yr or 30yr FIXED rate mortgages, with 20% down-payment and 28% front-end principal-interest-tax-insurance to income ratio and 36% back-end debt-to-income ratio. Do you guys really think FRE and FNM only originated and guaranteed these CONFORMING mortgages? LOL. You’re living in a pipedream. And here’s the punchline, wait…ready…FNM and FRE have ALT-A on their books that they bought as investments. Are you fffffing kidding me? What were they created for? To originate and guarantee the above described conforming mortgages. Where’s OFHEO? They’re swimming in lobbyist contributions.