Investors expecting wipeout for Fannie and Freddie

Fannie and Freddie Shares Plummet

By Stephen Bernard and Alan Zibel
Associated Press
via Yahoo News
Wednesday, August 20, 2008

http://news.yahoo.com/s/ap/20080820/ap_on_bi_ge/mortgage_giants_crisis;_...

NEW YORK -- Investors are betting that time is running out for Fannie Mae and Freddie Mac.

Shares of the mortgage finance companies lost more than a fifth of their value on Wednesday as fears mounted that the companies will soon need government support and any bailout would hang stockholders out to dry.

Since Monday, stock in the two companies -- which together hold or guarantee half the U.S. mortgage debt -- have plunged nearly 40 percent and are now trading at lows not seen in nearly two decades.

"There's a big negative feedback loop and there's no way out of it," Friedman, Billings, Ramsey & Co. analyst Paul Miller said in an interview. "As the stock falls more and more, it's more likely the government steps in and more likely equity holders get wiped out."

Fannie Mae's chief executive sought to reassure investors that no bailout is imminent.

"They haven't offered anything and we haven't asked for anything," Fannie Mae CEO Daniel Mudd said in a public radio interview Wednesday morning. "I don't anticipate that they will do that."

Mudd said the company's financial position "remains very strong," and that he intends to remain the CEO.

Executives with McLean, Va.-based Freddie Mac met with Treasury department officials on Wednesday morning, according to two sources familiar with the meeting who were not authorized to discuss its contents publicly. They described it as part of a regular series of meetings that have been occurring since last month when the Bush administration announced a plan to aid the two companies.

Armando Falcon, who served for six years as Fannie and Freddie's chief government regulator, expects a full-fledged government takeover before year-end. The companies' financial picture is far worse than they have acknowledged, he said, particularly for riskier loans they purchased as investments.

"They can't keep playing games with the accounting rules to avoid taking their losses," Falcon said.

The first intervention, he said, is likely to be government support for sales of the companies' debt. After that, he said, "everything quickly snowballs."

The two government-sponsored companies are the largest source of funding for home mortgages in the U.S. But they have struggled with soaring losses from mortgage defaults. Washington-based Fannie Mae and Freddie Mac, have lost a combined $3.1 billion between April and June, and investors fear the losses will continue to grow.

Fannie Mae's stock fell $1.61 to close at $4.40, after hitting a low of $3.95. Shares of Freddie Mac fell 92 cents to $3.25, after earlier hitting a low of $2.95. Both are down about 90 percent for the year.

Freddie Mac, in particular, has investors and analysts fearful. The company earlier this year promised to raise $5.5 billion -- more than double the company's $2.1 billion in market value Wednesday -- to shore up its finances.

Fannie's market capitalization was about $4.7 billion at the market's close.

The precipitous slide in Fannie and Freddie's stock prices are a sign investors assume the government is on the brink of taking control of the mortgage giants.

"It could be tomorrow, it could be six months from now," Miller said.

The Bush administration on July 13 unveiled a plan to provide unlimited government loans to the two mortgage giants and to purchase stock in the two companies if needed for a period covering the next 18 months.

Critics charged that the open-ended nature of the support for Fannie and Freddie would expose taxpayers to billions of dollars of potential losses.

Treasury Secretary Henry Paulson has insisted that the package needed to be structured in this way to boost financial markets' confidence as the companies deal with mounting losses from mortgages that have gone bad.

But investors started dumping shares of Fannie and Freddie this week after a Barron's article on Saturday -- citing an anonymous Bush administration source -- said the government is pressing the companies to raise more money to guard against losses but doesn't expect them to succeed.

The Barron's report said the government is likely to buy preferred stock in the companies, wiping out common shareholders. Paulson has declined to comment on whether a rescue is imminent.

Many observers say Paulson is not interested in shareholders and only in Fannie and Freddie's ability to provide support to the battered mortgage market. That means a government rescue might not occur until there is evidence the mortgage companies' are unable to sell short-term debt -- an indication they would no longer be able to operate normally.

Bert Ely, a banking consultant and longtime critic of the mortgage companies said, "the rationale for government involvement is to maintain (Fannie and Freddie's) role in the marketplace, which comes through buying mortgages."

A recent debt auction by Freddie Mac indicated the sale of short-term debt is becoming more difficult and expensive.

On Tuesday, a $3 billion offering of five-year notes by Freddie Mac was priced at 1.13 percent above five-year U.S. Treasury notes. That's up from May, when Freddie Mac's notes were priced at just 0.69 percent above Treasury notes of a similar length.

The current lack of action by both Fannie and Freddie to raise capital, coupled with the government's silence, is freezing up liquidity in the mortgage market, Miller said. And that's trickling down to traditional retail banks that rely on Fannie and Freddie to purchase loans and provide cash to make new mortgages.

"Until they get funding," Miller said, "it hurts everyone."

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