Fannie, Freddie pose new threat to housing

Regulators insist that Fannie and Freddie have enough cash to weather the storm. But with foreclosures running 50 percent higher than a year ago, and home prices still falling, it’s hard to know just how badly their mortgage portfolios will be hit.

So far the two companies have reported losses of $11 billion on their $5 trillion in mortgages and related securities. And while the default rate on mortgages written after 2005 have been higher than normal, most of the rest of the mortgages held by Fannie and Freddie are performing well.

But investor worries already are raising the cost for Fannie and Freddie to borrow money, which in turn makes mortgage more expensive.

“We're spiraling downward and revaluing the balance sheet as we go there, and in a sense the pessimism is creating a less viable Fannie and Freddie," said Paul Kedrosky, a market strategist with Ten Asset Management. “If you want to be a rationalist about this, the bailout doesn't need to happen. The trouble is the emotional component.”

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The problems at Fannie Mae and Freddie Mac predate the recent mortgage meltdown, and efforts to strengthen their financial base have been under way for years. Congress has been debating reform of the entities since 2003, but those efforts have been stalled for a variety of reasons.

Passage of one proposal on a new regulator for the companies has been delayed by debates about whether to limit the size of their portfolios and their broader mission. A 2005 accounting scandal at Fannie Mae, which cost top executives their jobs, also set back efforts.

More recently, reform efforts have been stalled by debate over a housing relief bill, which the Senate was set to vote on Friday afternoon.

As mortgage defaults and foreclosures have risen, Congress and the White House have been split on the issue of providing tax-funded assistance to ease the impact on homeowners and communities. Opponents of broad relief measures have argued against a “bailout” of imprudent lenders and borrowers; proponents have argued that the Fed already has stepped in to bail out the banking industry.

Further delays will only make matters worse, according to James Paulsen, chief investment strategist at Well Capital Management.

“I think at the moment what scares me the most is just the limbo we're in here,” he said. “Creating uncertainty as we debate about it, we make it worse, and there's no nimble Fed that can just step in and change this or make a quick decision to extinguish this situation even if we wipe out the shareholders. It's like the longer we talk about it, the more it spreads out across the market.”

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