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Fannie and Freddie: Worth Negative $50 Billion Each

Fascinating piece in Barron's this week on our favorite junk paper: Phoney and Fraudy.

A few interesting factoids about the GSEs, many of which you may have been unaware of:

• In the "1980s Fannie was effectively insolvent";

• These two GSEs currently have $5.2 trillion debt and guarantee obligations;

• Both balance sheets contain a tax credit entry called "deferred tax assets." These increase Fannie's net worth by $36 billion and Freddie's by $28 billion. They don't represent real cash, but are merely paper credits built up over the years. The worse shape the companies are in, the greater these credits are. To insolvent companies like FRE & FNM, they are meaningless accounting entries.

• The CEO claim that losses were due to being "forced to buy higher-risk mortgages to meet government affordable-housing targets" is provably untrue; The vast bulk of GSE losses came from mortgages where there was no attempt to verify borrowers' income or net worth. And, most of these mortgages were for principal balances much higher than mortgages made to low-income borrowers;

• It was the lack of lending standards -- LTV, Income verification, FICO scores, debt servicing abiloity, down payments, etc. -- that was the primary cause of losses, and not a "soft" government goal;

• A substantial portion of Fannie's and Freddie's credit losses ($337 billion and $237 billion respectively) comes from not sub-prime, but Alt-A. These mortgages were the real-estate speculation in the ex-urbs of Las Vegas and Los Angeles;

• Freddie CEO Syron has recently said they did not want to dilute current shareholders further;

Here's your Ubiq-cerpt:™

"IT MAY BE CURTAINS SOON FOR THE MANAGEMENTS and shareholders of beleaguered housing giants Fannie Mae and Freddie Mac . It is growing increasingly likely that the Treasury will recapitalize Fannie and Freddie in the months ahead on the taxpayer's dime, availing itself of powers granted it under the new housing bill signed into law last month. Such a move almost certainly would wipe out existing holders of the agencies' common stock, with preferred shareholders and even holders of the two entities' $19 billion of subordinated debt also suffering losses. Barron's first raised the possibility of a government takeover of Fannie and Freddie in a March 10 cover story, "Is Fannie Mae Toast?"

Heaven knows, the two government-sponsored enterprises, or GSEs, both need resuscitation. Soaring mortgage delinquencies and foreclosures have led the companies to gush red ink for the past four quarters, and their managements concede the outlook is even grimmer well into next year. Shares of Fannie Mae (ticker: FNM) and Freddie Mac (FRE) have lost around 90% of their value in the past year, with Fannie now trading at $7.91, and Freddie at $5.88.

Similarly, the balance sheets of both companies have been destroyed. On a fair-value basis, in which the value of assets and liabilities is marked to immediate-liquidation value, Freddie would have had a negative net worth of $5.6 billion as of June 30, while Fannie's equity eroded to $12.5 billion from a fair value of $36 billion at the end of last year. That $12.5 billion isn't much of a cushion for a $2.8 trillion book of owned or guaranteed mortgage assets.

What's more, the fair-value figures reported by the companies may overstate the value of their assets significantly. By some calculations each company is around $50 billion in the hole. But more on that later..."

As previously noted, we covered our short in Fannie some time ago -- but that was not an endorsement of either company. They simply had fallen far enough that we wanted to avoid the inevitable short squeeze.

The entire article is well worth the read . . .

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Source:
The Endgame Nears For Fannie and Freddie   
JONATHAN R. LAING   
Barron's AUGUST 18, 2008   
http://online.barrons.com/article/SB121884860106946277.html

Free text version at Marketwatch

Saturday, August 16, 2008 | 08:23 AM | Permalink | Comments (20) | TrackBack (0)
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Comments

http://www.nytimes.com/2008/08/15/business/15norris.html

"Not only are there more foreclosures, the losses are much larger. In 2005, Fannie lost an average of 7 per cent when it sold a forclosed property. So far this year, the figure is 26 per cent, and in California it is up to 40 per cent. In all of 2006 Fannie forclosed on 93 homes. The current rate is 1000 per MONTH."

From the weekend edition of the NYT.

Bruce in Tennessee

Posted by: Bruce | Aug 16, 2008 8:35:06 AM