Fannie Mae and Freddie Mac on the Brink

Includes: FMCC, FNMA
by: Rob K. Blake

Finally I am getting some support for my longstanding prediction that the GSEs, Fannie Mae and Freddie Mac, are on the verge of collapse. Tuesday The New York Times published an article which I believe is the first from a major news outlet to even raise the question of the GSEs'' long-term viability.

The article stated the worries by saying,

"But some financial experts worry that the companies are dangerously close to the edge, especially if home prices go through another steep decline. Their combined cushion of $83 billion — the capital that their regulator requires them to hold — underpins a colossal $5 trillion in debt and other financial commitments."

The two companies report $9 billion in losses last year (the same amount that kicked off the Bear Stearn's meltdown coincidentally) with many more to come this year. Some estimate this year's losses to top $20 Billion.

I don't know given the GSEs'' predilection for accounting shenanigans how anyone could ever determine just how exposed they really are. My guess is they are in more hot water than we will ever know until it's too late.

I smell another bailout…but this time it will be huge. The GSEs represent a staggering 80% of all securitized mortgage obligations now that Wall Street has lost its enthusiasm for those financial instruments.

A collapse of the GSEs would make the Savings & Loan debacle of the 1980s look like a day in the park. An already frozen mortgage credit market would all but collapse. Home buying and selling would grind to a halt as no one, not even good credit people, could find mortgage money.

As one insider put it in the New York Times,

"It's not irrational to be thinking about a bailout."

I was always puzzled why the GSEs loss numbers were not worse until I learned in the article they don't call a loan "in trouble" until it is 120 days - a full 4 months - delinquent…the time period most other lenders have filed a foreclosure. They are now redefining "in trouble" as 24 months without a payment!

What! That's insane!

I quote the Times once again,

"Both companies have also recently changed their policies on delinquent loans, which they previously recorded as impaired when borrowers were 120 days late. Now, some overdue loans can go two years before the companies record a loss."

Well, that certainly answers the question why the GSEs have been suspiciously quiet about losses while the entire mortgage world is reporting disaster after disaster.

A "cover up" or manipulation of accounting is what they are good at; safeguarding the housing industry…not so much.

I'm going to keep both Fannie Mae and Freddie Mac on my list of companies to sell short…I've already made 29 and 41 percent annual returns (see below) doing it and another 30% is in the offing for these lying giants.

Good luck!