Monday, December 24, 2007

Fannie and Freddie's ticking time bomb?

Fannie Mae recently disclosed that it was suffering from huge losses due to the turmoil in the mortgage markets: "WASHINGTON (Reuters) - Fannie Mae , the largest U.S. mortgage finance company, said on Friday its third-quarter net loss doubled from last year as slumping home prices and a credit squeeze drove down values of mortgage securities. "

Most experts opine that the current crisis in the mortgage markets was due to the turmoil involving subprime and "Alt-A" mortgages as well as a decline in home prices nationwide. Numerous lenders have gone out of business, layoffs in the industry are widespread, and borrowers have found that it is now much tougher to get a mortgage than a year ago as they are required to have higher credit scores and more money for down payments. The specter of subprime ARM readjustments has reared its ugly head as the latest bugaboo to spook Washington and Wall Street. Unfortunately, this may not be the worst of it as there is still another ticking time bomb that has nothing to do with ARM resets or a falling housing market.

Fannie Mae and Freddie Mac made the decision several years ago to lower the requirements approving a mortgage application. Fannie and Freddie mortgages (called conforming) are desirable as they have the lowest rates as compared to mortgages not backed by Fannie and Freddie (called nonconforming. At this point, Fannie and Freddie will be called the agencies.) In the past, a borrower had to put down 3-5% of the purchase price for a down payment, have a minimum credit score of 620, have a debt to income ratio (that is where monthly bills on the credit report, utilities are NOT included, are divided by the gross monthly income) of 36% as well as meeting other requirements.

However, the agencies decided to offer mortgages to borrowers who could not meet those requirements. These mortgages were called expanded approval loans. Credit score requirements were lowered. The agencies started taking credit scores in the 500's. Indeed, if a borrower had enough money to put down on a house (such as 50%), then very bad credit was overlooked. The criteria became more flexible. The minimum credit score was lowered if the borrower had more assets, had a low debt to income ratio, and the loan to value (value of the home) was lower. The agencies offered "flex 100" loans where the borrower did not have to put any money down. The borrower was still required to purchase mortgage insurance, which could be quite high depending on the credit score. The agencies then lowered the credit score requirements. It was not uncommon to see borrowers with credit scores of 590, 600, or lower approved by the agencies for mortgages with no money down. Keep in mind these mortgages are NOT ARMs but are fixed rate mortgages. However, the agencies DID raise the rates on these loans by grading them at certain levels: Expanded Approval I, II, III. Each level had a higher rate. One that was a III usually had a rate that was at least 1.5% above the regular conforming rates so the agencies did try to offset the higher risk with higher rates.

However, the aggressive lending did not stop there as the agencies rolled out their community lending programs in 2003. These weakened the requirements even further. Under the Flex 100's, the borrower still had to have 3% of his own funds for closing costs. Under the community lending standards, that requirement was abolished and replaced with a $500 minimum down payment requirement (It could be a gift from a family member). The mortgage insurance coverage rate was cut from the 35% required for a flex 100 to 20% for a community lending program. The rate was only slightly higher than a regular conforming loan, usually a quarter to a half of a point. The agencies approved these loans for borrowers that had credit scores as low as 570 and in rare instances, even lower. Debt to income ratio requirements were eased as the 100% loan to value mortgages were approved borrowers having ratios of 55%! (remember, that ratio is based off of gross income, not net income after taxes). No one wanted to ruin the party as these new programs became very popular among realtors, lenders, and mortgage companies.

However, this may be a ticking time bomb waiting to explode in the agencies' portfolios as defaults climb. One must ask if the agencies are losing money merely because of falling housing prices and lower levels of business or because of these loans that were approved under much easier underwriting standards. The mortgage insurance companies have quit (or soon plan to do so) insuring mortgages that have a credit score under 620 if the loan to value is more than 95%. This is to be expected as they have suffered huge losses in 2007 and it also tells you where the defaults may be coming from as most of these so-called experts have not realized most subprime mortgages DO NOT require mortgage insurance. Fannie Mae just announced that it is implementing a pricing increase for mortgages that have a credit score below 680 and a loan to value above 95% that will add approximately .500-.750 to the conforming rate. The agencies have also tightened their underwriting requirements (this contributing more to the housing slump) so that borrowers with lower credit scores with

Even with these price increases by the agencies and stricter underwriting guidelines, one must still wonder if they are closing the barn door after the horse has already left as the expanded approval and community lending mortgages sit on their books. If that bomb explodes, it will make the subprime explosion look like a firecracker.

3 comments:

Anonymous said...

By Michael R. Crittenden Of DOW JONES NEWSWIRES

WASHINGTON -- Fannie Mae (FNM) and Freddie Mac (FRE) were adequately capitalized as of Sept. 30, the Office of Federal Housing Enterprise Oversight said Thursday.

The two housing government-sponsored enterprises are required by law to meet certain minimum and risk-based capital standards, and Ofheo reports on the companies' compliance with the standards four times a year.

As of Sept. 30, Fannie Mae's risk-based capital requirement was $24.7 billion, and the company's total capital of $43.1 billion on that date exceeded the requirement by $18.4 billion, Ofheo said.

The Ofheo-directed capital requirement for Fannie Mae, which takes into account a higher requirement stemming from the company's past accounting problems, was $39.4 billion. The company's core capital of $41.7 billion exceeded Ofheo's requirement by $2.3 billion.

As of Sept. 30, Freddie Mac's risk-based capital requirement was $11.3 billion, and the company's total capital of $36.4 billion on that date exceeded the requirement by $25.1 billion.

Freddie Mac's core capital was $34.6 billion, which exceeded the Ofheo-directed capital requirement of $34 billion by just $600 million as of Sept. 30, Ofheo said.

Ofheo said its classification of the capital position of the companies was based on the firms' third-quarter financial statements, among other things.

The regulator noted in its release that both firms have sought to boost their capital levels in recent months due to losses tied to the downturn in the housing market. Fannie Mae and Freddie Mac have issued billions of dollars in preferred stock during the fourth quarter to ensure they meet Ofheo's requirements.

While the capital classification released Thursday is only based on capital as of Sept. 30, Ofheo described the capital-raising efforts of the two firms as "prudent considering both market conditions and the need to maintain sufficient capital."

-By Michael R. Crittenden, Dow Jones Newswires; 202-862-9273; michael.crittenden@dowjones.com

Kingfish said...

Keep in mind I am talking about possible future losses. I am familiar with their current financial condition. However, in the current turmoil over Alt A and subprime loans. these "expanded approval" and "my community" loans number in the billions.

Kingfish said...

Go ahead anonymous, defend that comment now. Told you.


Recent Comments

Search Jackson Jambalaya

Subscribe to JJ's Youtube channel

Archives

Trollfest '09

Trollfest '07 was such a success that Jackson Jambalaya will once again host Trollfest '09. Catch this great event which will leave NE Jackson & Fondren in flames. Othor Cain and his band, The Black Power Structure headline the night while Sonjay Poontang returns for an encore performance. Former Frank Melton bodyguard Marcus Wright makes his premier appearance at Trollfest singing "I'm a Sweet Transvestite" from "The Rocky Horror Picture Show." Kamikaze will sing his new hit, “How I sold out to da Man.” Robbie Bell again performs: “Mamas, don't let your babies grow up to be Bells” and “Any friend of Ed Peters is a friend of mine”. After the show, Ms. Bell will autograph copies of her mug shot photos. In a salute to “Dancing with the Stars”, Ms. Bell and Hinds County District Attorney Robert Smith will dance the Wango Tango.

Wrestling returns, except this time it will be a Battle Royal with Othor Cain, Ben Allen, Kim Wade, Haley Fisackerly, Alan Lange, and “Big Cat” Donna Ladd all in the ring at the same time. The Battle Royal will be in a steel cage, no time limit, no referee, and the losers must leave town. Marshand Crisler will be the honorary referee (as it gives him a title without actually having to do anything).


Meet KIM Waaaaaade at the Entergy Tent. For five pesos, Kim will sell you a chance to win a deed to a crack house on Ridgeway Street stuffed in the Howard Industries pinata. Don't worry if the pinata is beaten to shreds, as Mr. Wade has Jose, Emmanuel, and Carlos, all illegal immigrants, available as replacements for the it. Upon leaving the Entergy tent, fig leaves will be available in case Entergy literally takes everything you have as part of its Trollfest ticket price adjustment charge.

Donna Ladd of The Jackson Free Press will give several classes on learning how to write. Smearing, writing without factchecking, and reporting only one side of a story will be covered. A donation to pay their taxes will be accepted and she will be signing copies of their former federal tax liens. Ms. Ladd will give a dramatic reading of her two award-winning essays (They received The Jackson Free Press "Best Of" awards.) "Why everything is always about me" and "Why I cover murders better than anyone else in Jackson".

In the spirit of helping those who are less fortunate, Trollfest '09 adopts a cause for which a portion of the proceeds and donations will be donated: Keeping Frank Melton in his home. The “Keep Frank Melton From Being Homeless” booth will sell chances for five dollars to pin the tail on the jackass. John Reeves has graciously volunteered to be the jackass for this honorable excursion into saving Frank's ass. What's an ass between two friends after all? If Mr. Reeves is unable to um, perform, Speaker Billy McCoy has also volunteered as when the word “jackass” was mentioned he immediately ran as fast as he could to sign up.


In order to help clean up the legal profession, Adam Kilgore of the Mississippi Bar will be giving away free, round-trip plane tickets to the North Pole where they keep their bar complaint forms (which are NOT available online). If you don't want to go to the North Pole, you can enjoy Brant Brantley's (of the Mississippi Commission on Judicial Performance) free guided tours of the quicksand field over by High Street where all complaints against judges disappear. If for some reason you are unable to control yourself, never fear; Judge Houston Patton will operate his jail where no lawyers are needed or allowed as you just sit there for minutes... hours.... months...years until he decides he is tired of you sitting in his jail. Do not think Judge Patton is a bad judge however as he plans to serve free Mad Dog 20/20 to all inmates.

Trollfest '09 is a pet-friendly event as well. Feel free to bring your dog with you and do not worry if your pet gets hungry, as employees of the Jackson Zoo will be on hand to provide some of their animals as food when it gets to be feeding time for your little loved one.

Relax at the Fox News Tent. Since there are only three blonde reporters in Jackson (being blonde is a requirement for working at Fox News), Megan and Kathryn from WAPT and Wendy from WLBT will be on loan to Fox. To gain admittance to the VIP section, bring either your Republican Party ID card or a Rebel Flag. Bringing both and a torn-up Obama yard sign will entitle you to free drinks served by Megan, Wendy, and Kathryn. Get your tickets now. Since this is an event for trolls, no ID is required. Just bring the hate. Bring the family, Trollfest '09 is for EVERYONE!!!

This is definitely a Beaver production.


Note: Security provided by INS.

Trollfest '07

Jackson Jambalaya is the home of Trollfest '07. Catch this great event which promises to leave NE Jackson & Fondren in flames. Sonjay Poontang and his band headline the night with a special steel cage, no time limit "loser must leave town" bout between Alan Lange and "Big Cat"Donna Ladd following afterwards. Kamikaze will perform his new song F*** Bush, he's still a _____. Did I mention there was no referee? Dr. Heddy Matthias and Lori Gregory will face off in the undercard dueling with dangling participles and other um, devices. Robbie Bell will perform Her two latest songs: My Best Friends are in the Media and Mama's, Don't Let Your Babies Grow up to be George Bell. Sid Salter of The Clarion-Ledger will host "Pin the Tail on the Trial Lawyer", sponsored by State Farm.

There will be a hugging booth where in exchange for your young son, Frank Melton will give you a loooong hug. Trollfest will have a dunking booth where Muhammed the terrorist will curse you to Allah as you try to hit a target that will drop him into a vat of pig grease. However, in the true spirit of Separate But Equal, Don Imus and someone from NE Jackson will also sit in the dunking booth for an equal amount of time. Tom Head will give a reading for two hours on why he can't figure out who the hell he is. Cliff Cargill will give lessons with his .80 caliber desert eagle, using Frank Melton photos as targets. Tackleberry will be on hand for an autograph session. KIM Waaaaaade will be passing out free titles and deeds to crackhouses formerly owned by The Wood Street Players.

If you get tired come relax at the Fox News Tent. To gain admittance to the VIP section, bring either your Republican Party ID card or a Rebel Flag. Bringing both will entitle you to free drinks.Get your tickets now. Since this is an event for trolls, no ID is required, just bring the hate. Bring the family, Trollfest '07 is for EVERYONE!!!

This is definitely a Beaver production.

Note: Security provided by INS
.