Ask Money

Ginnie Mae

Chris Farrell Dec 23, 2008

Question: We’ve heard so much about the problems with Freddie Mac and Fannie May, how are they difference from GNMA’s. Our investment in them seems to be holding its value when all else has declined. Why? Robert, Clinton Township, MI

Answer: Fannie Mae and Freddie Mac were hybrid companies, part private and part public. They were “profit-driven corporations, owned by shareholders and, in theory, beholden only to them,” wrote James Surowiecki in a New Yorker column. “But they’re also so-called ‘government-sponsored enterprises,’ set up by the state with the explicit mission of fostering homeownership, by buying and selling home mortgages.” Fannie Mae and Freddie Mac had the implicit, but not explicit backing of the federal government. However, that implicit guarantee allowed the companies to raise money cheaply on the capital markets. The corporations were also exempt from most state and local taxes, as well as free of many Securities & Exchange Commission requirements. In the end, the hybrid structure allowed for management to fund too rapid growth with cheap money and gargantuan private sector pay and bonuses. Of course, as we all know the house of cards fell apart this year. The federal government had to make its implicit guarantee explicit by bailing out the two mortgage giants over the summer, and then, in essence, nationalizing them.

The Government National Mortgage Association–better known as Ginnie Mae–was established by Congress in 1968. It is a government-owned corporation within the Department of Housing and Urban Development (HUD). It was never partially privatized. It was never a hybrid private/public corporation (or what Surowiecki aptly called “the duck-billed platypuses of the financial world.”) As a government agency the full faith and credit of the U.S. taxpayer has always been on the hook with Ginnie Mae. The federal guarantee was explicit all along. That meant it was conservatively run and managed with the risks it absorbed under control. Indeed, the agency’s business model is conservative. It guarantees the timely payment of principal and interest on mortgage backed securities and the underlying loans are insured or guaranteed by other agencies–the Federal Housing Administration, the Department of Veterans Affairs, the Department of Agriculture’s Rural Housing Service, and HUD’s Office of Public and Indian Housing. By the way, Ginnie Mae’s traditional edge on its better known rivals was erased after the federal government took over Fannie Mae and Freddie Mac.

Still, considering the simplicity of the Ginnie Mae business model it’s hardly surprising it has largely stayed out of the news. That’s not the same thing as saying there isn’t any risk asscociated with its mortgage-backed debt. For one thing, like all bonds the value of its securities fluctuates with changes in the interest rate environment. For another, as with all mortgage-backed securities, when interest rates fall the owners of Ginnie Mae securities will probably get their investment money back earlier than expected. That’s because the securities are made up of lots of mortgages. When rates fall, homeowners refinance, and the mortgage is paid off. Investors get their money back early forcing them to reinvest that money at a lower rate.

Nevertheless, these risks are relatively small compared to the safety of the security–something everyone worries about these days.

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