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So, who says the worst is over?

Alisa Roth May 6, 2008

So, who says the worst is over?

Alisa Roth May 6, 2008


BOB MOON: So, who says the worst is over? Certainly not the underwriter of the biggest share of mortgages in America. Fannie Mae posted dismal earnings for the first quarter of the year: A loss of more than $2 billion.

That has investors bracing for more big losses when Fannie Mae’s federally-sponsored cousin Freddie Mac reports its results later in the week. Both of the big firms have been key in keeping the mortgage market alive during the ongoing credit problems. All of which is raising all kinds of concerns about what will happen if things get even worse.

Marketplace’s Alisa Roth explains.

ALISA ROTH: First of all, let’s review exactly what Fannie Mae and Freddie Mac do. When you take out a mortgage, chances are the bank or savings and loan, or mortgage company turns around and sells that mortgage to Fannie Mae or Freddie Mac. They, in turn . . .

Chris Mayer: . . . Will securitize that mortgage by selling portfolios of the mortgage to investors.

Chris Mayer studies real estate at Columbia’s business school.

Fannie and Freddie promise to pay those investors if anybody defaults on the mortgage.

What makes them different is that the government oversees their operations and lets Fannie and Freddie get away with having smaller reserves than other institions. Perhaps more important, though, is the understanding that if either got into trouble, the Feds would bail them out.

Mayer: As a result of what is referred to as an implicit guarantee, people are willing to lend to them at very cheap rates.

But that implicit guarantee is what’s making people nervous about Fannie Mae’s losses.

Nobody’s expecting Fannie Mae’s imminent demise. Still, if it ends up needing a bailout, it would cost taxpayers a lot of money, and potentially have really dire consequences for the housing market.

Chris Mayer:

MAYER: For the moment, Fannie Mae and Freddie Mac are the major lenders left in this game. And if they were to have problems that forced them to cut back on mortgage lending, there would almost literally be no one left to go to, to get a mortgage.

But some say those kinds of predictions mean we’re getting ahead of ourselves. John Quigley is an economist at the University of California, Berkeley:

John Quigley: The specific Fannie Mae loss is small potatoes in the general course of things in the economy, but it indicates the enormous instability in the housing market.

So is today’s news no big deal?

Quigley: It’s more worrisome because there’s potentially more federal resources on the hook, but it’s not a calamity in and of itself.

Fannie Mae, meanwhile, says it’s going to start raising more capital — $6 billion it says — by selling more shares. It’s also warning that it expects losses from mortgage defaults to be even worse next year.

In New York, I’m Alisa Roth for Marketplace.

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