Does the recent news about the government takeover of Freddie Mac and Fannie Mae have you scratching your head? Before the news was news, Lawrence Yun, chief economist of the National Association of Realtors wrote a brief article explaining the current housing situation and what could happen. Talk about forecasting...
Why are the companies' share prices falling? Investors fear they will collapse because of rising mortgage defaults driven by home price declines.
What are the default rates on loans held by the companies? For Fannie, 1.22% for single-family loans delinquent 90 days or more, up from .62%; for Freddie, .81%, up from .49%. The figures are for April and were reported in The Wall Street Journal.
What happens if they collapse? Mortgage rates will rise much higher.
What happens if home prices fall much further than anticipated and the newly raised capital runs out or stock prices fall to zero? The federal government will take over the companies (without a doubt) and assume the mortgage debt default risk.
Yun hit the nail right on the head because the government is now in charge. But what does it all mean? Here's a snapshot:
Over the weekend, both Freddie Mac and Fannie Mae have been placed into a government conservatorship that will be run by the recently created Federal Housing Finance Agency.
· This was a necessary move to prevent the collapse of Freddie Mac and Fannie Mae which would have been more damaging to both US and global financial markets.
· It is expected that this move will bring stability to the housing market by increasing the available funds for lending, thereby lowering interest rates. It is also expected to spur buyer activity which will begin the process of reversing the downward trend in property values.
· Although there is no indication when the conservatorship will end, this move is viewed as a short-term take over intended to increase confidence and lower uncertainty in the housing market.
· This takeover has been strongly endorsed by Federal Reserve Chairman Ben Bernanke, "These necessary steps will help to strengthen the U.S. housing market and promote stability in our financial markets."
· It is not clear how, if at all, this will affect Fannie Mae’s and Freddie Mac’s lending guidelines. Their lending guidelines will continue to depend on how much risk they are willing to accept.
· For now, this appears to be a good thing for the housing market but the full impact on the economy and the ripple effects this will have to taxpayers and Fannie Mae/Freddie Mac investors remains to be seen.