Fannie May Fail - Barron's

Barron's cover story: A damning exposé of government-sponsored mortgage giant Fannie Mae (FNM). Put on your helmets, because according to the venerable magazine, Fannie's headed for a crash of Humpty Dumpty proportions.

"[Fannie's] balance sheet is larded with soft assets and understated liabilities that would leave the company ill-equipped to weather a serious financial crisis. And spiraling mortgage defaults and falling home prices could bring a tsunami of credit losses over the next two years that will severely test Fannie's solvency."

Recently, St. Louis Fed president William Poole told an audience that while he has no inside data on GSEs [Government Sponsored Enterprise = Fannie and Freddie (FRE)], "in assessing the risk of further credit disruptions this year, I would put the GSEs at the top of my list of sources of potentially serious trouble."

Fannie reports a net worth of $45.4B, $3.9B more than its minimum capital requirement of $41.5B. BUT, $13B of that are deferred tax credits that only have value if the company earns enough money to trigger them -- an unlikely scenario. Barron's notes that if Fannie were a bank, none of the $13B would be allowed on its balance sheet. Another $8.1B of its net worth is from Lower Income Housing Tax Credit partnerships, which are also likely to expire worthless. That leaves $45.4 - $13 - $8.1 = $24.3B.

Looking at its liabilities, Fannie tells regulators it will have to pay out $15.4B in guarantees on its $2.4T guaranty book. Yet on its "fair value" balance sheet, the guarantees are estimated at $20.4B. What's worse, Fannie's estimates assume guaranty payments of just 0.74% of the portfolio, where smaller rival Freddie pegs its payouts at 1.5% -- and Freddie has a lower delinquency rate than Fannie. Also, in Q4 the firm wrote down its $74B of non-agency subprime and Alt-A mortgages by just 6% ($4.6B), of which its says only $1.4B is permanent. Most major banks (MER, UBS) wrote down much higher percentages on similar paper, with no qualifiers. Using conservative default rates, Barron's says Fannie could be hit by cumulative credit losses of over $50B.

A bailout? There's no doubt the government will be forced to back Fannie's debt and guarantee obligations, much of which are owned by major U.S. creditors like China and Japan. But taking over its debt, and potentially the company, is not likely to be a savory move for shareholders. "Firms in trouble ought not to be bailed out, unless the bailout takes a form that imposes heavy costs on managers and shareholders," Poole says.

Comments

[Timothy Sykes:]

My god its wonderful how quickly everything falls apart, dumb money be gone, I've built my own little ark!

2008 Mar 09 12:42 PM

[johnthebear:]

You know, it is easy to say, "no bailouts", but when you look at the total mess we are in, there may be no choice. A stitch in time....may save nine trillion!

Just pray that those that make the decisions make good choices on how and when to do it in a meaningful way that truly makes a difference... not just "throwing good money after bad"

2008 Mar 09 01:11 PM

[HedgeTruth:]

i think the real question is whether the us govt. can AFFORD a bailout of fannie...

this whole mess is still just getting started...i think this week will bring carnage like we have never before seen...

bear stearns is insolvent...

lehman is close...

fannie and freddie common are both going to ZERO...

and commercial banks wamu, wells fargo, national city and several others are headed to ZERO...

there is a reuters story out saying that investment banks could LOSE $325 billion MORE from loans they made to hedge funds...

this has not been factored into anybody's models yet...

2008 Mar 09 02:57 PM

[whidbey:]

No surprises here. What is a little shocking is the willingness to admit such things are possible. Generally it comes as a "surprise". IF the GSEs go down there can be no "too big to fail" doctrine; our creditors must believe anything is possible. Then comes the collaspe of the dollar and recession/depression, just when we have no competent leadership at the Fed or the Treasury.

2008 Mar 09 07:14 PM

[whidbey:]

No surprises here. What is a little shocking is the willingness to admit such things are possible. Generally it comes as a "surprise". IF the GSEs go down there can be no "too big to fail" doctrine; our creditors must believe anything is possible. Then comes the collaspe of the dollar and recession/depression, just when we have no competent leadership at the Fed or the Treasury.

2008 Mar 09 07:14 PM

[kilroy:]

good buying time... cheap as it's been in a long time.

2008 Mar 09 08:21 PM

[Don-100:]

think gold and silver

2008 Mar 09 08:59 PM

[HedgeTruth:]

kilroy...can you read...or do you even read...??

fannie common is headed to zero and you think it's cheap at $22...

was that a joke..?..

2008 Mar 09 10:35 PM

[lifejacket:]

its always darkest before dawn ...... the lesson of leveraging without consequuence will be more than a 6 month phenomenon .... however within this context of doom and gloom also witness that the UScentric model of the world is changing rapidly. Ultimately the negatively impacting housing markets of Florida and California will not have anywhere near as great an impact as the positive growth impact of the Chinese and Indian consumer.

2008 Mar 10 06:11 AM