The real estate blog.

Something big is brewing in the mortgage markets today…something that will change mortgage lending forever. For the first time in their history, the Government Sponsored Enterprises (GSEs) Freddie Mac and Fannie Mae are being seriously tested about the implied government guarantee that allows them to get favorable interest rates and keep the flow of money for mortgages flowing.

I’m not going into a detailed explanation of how this process works. There are plenty of excellent sources for that on the Internet. Google is your friend.

CNN reported -

The anxiety over Fannie Mae and Freddie Mac, crucial to a recovery of the battered housing market and the economy as a whole, reached fever pitch on Friday as shares plunged on speculation of a looming bailout.


Immediately after the markets opened, shares of Fannie (FNM, Fortune 500) and Freddie (FRE, Fortune 500) fell more than 47% from their already battered closing price the day before. They soon rebounded later in the morning but Fannie shares were still down 22% and Freddie shares were off 20% in midday trading.

We’ve talked about and witnessed corporate bailouts in the past year. A lot of criticism has been levelled at the Bear Stearns buyout which saved that company from bankruptcy. It seems to me that Fannie and Freddie are the only companies that should have the government at their back willing to catch them should they fall. Legally they were set up that way. However, should government have to step in, the companies should be placed under a very close watch. The accounting scandals both had earlier this decade are proof these companies were being mismanaged.

The Wall Street Journal reported early this morning -

One possible scenario if Fannie and Freddie’s financial position worsens: Under existing law, if either company were severely low on capital, it could fall under the control of their government regulator, which would then be responsible for the firm. That step — known as placing it in a conservatorship — would allow the mortgage company to continue operating, but the extent of its abilities in such a distressed situation remains unclear.

I personally doubt either company will become insolvent and fail. That implied government guarantee will be tested and government will come through. Government has propped up the mortgage markets since the crisis began by lowering interest rates, opening the discount window using weakened collateral, bailing out Bear Sterns, allowing Countrywide to be acquired by Bank of America and more. When facing the biggest test, why wouldn’t government stand up?

Of course the costs are going to be tremendous. Everybody will be affected. Whether it’s increased taxes or increased interest rates, everybody will pay. We will see further tightening of credit standards. As consumers, it is now more important than ever to maintain excellent credit and to save money. Easy credit is over for everything…homes, cars, credit cards and student loans.

On a day when the stock market fell over 200 points at one time, the bond market affecting mortgage rates saw a huge sell-off as well. The 10 year bond yield increased 14 basis points as of this writing sending 30 year mortgage rates up nearly one percent for some lenders. There has been much speculation whether the Fed will raise rates at its August meeting and I estimated the volatility would begin in the third week of the month. From here until August 5th it’s going to be a very wild ride.

Hopefully government will settle the Fannie/Freddie issue soon. Either way, we’re all going to pay.