CNNMoney reports that McGraw-Hill Co.'s (NYSE: MHP) Standard & Poor's (S&P) forecasts the possibility of a $1 trillion bailout of Federal National Mortgage (NYSE: FNM) and Federal Home Loan Mortgage (NYSE: FRE) -- government sponsored purchasers of pools of loans which package them into securities. Specifically, S&P forecasts that a bailout of these two -- known as Fannie Mae and Freddie Mac -- would cost -- in a worst case scenario -- between $420 billion and $1.1 trillion of taxpayer's money. This would represent several times the $250 billion Savings & Loan bailout by the first President Bush.
It's a bit ironic for S&P to be issuing this report. After all, it was among the ratings agencies that contributed to the problem in the first place. As I posted last August, the ratings agencies competed for enormous fees from investment banks to put their AAA ratings on issues of mortgage-backed securities (MBS). Those AAA ratings caused naive MBS buyers to skip the kind of detailed analysis of their purchases that might have stopped the flow of dumb money into the MBS bubble that is now putting Fannie and Freddie at risk.
How did S&P arrive at this scary conclusion? Both companies are forecast to report more losses this year due to declining home prices and rising mortgage defaults. And according to Yale professor, Robert Schiller, "The real fundamental problem is real estate prices have been falling and they might fall substantially more. The Office of Federal Housing Enterprise Oversight (OFHEO) and Fannie and Freddie never considered the possibility of a massive real estate correction."
Moreover, the vast majority of mortgages were backed by Freddie or Fannie -- at the end of January, 82% of all mortgages in the U.S. were backed by one of the firms, up from only 46% in the second quarter of 2007. That means if we're in a recession and many people start losing their jobs, more and more of them will stop paying their mortgages. This could bring that worst case scenario closer to reality and trigger the S&P forecast bailout.
It remains to be seen how much money the U.S. can afford to shovel into a credit crunch bailout. To paraphrase former Senate Minority Leader, Everett Dirksen's famous phrase [he never actually said it]: a trillion here and a trillion there and pretty soon you're talking about real money.
Peter Cohan is President of Peter S. Cohan & Associates. He also teaches management at Babson College and edits The Cohan Letter
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Reader Comments (Page 1 of 1)
4-22-2008 @ 10:55AM
Petkov said...
"The Office of Federal Housing Enterprise Oversight (OFHEO) and Fannie and Freddie never considered the possibility of a massive real estate correction."
They thought the good times will go on forever? Were they THAT ignorant of history or simply very good liars? You meant to tell me all those Harvard and what-not educated boys in 3 piece suits didn't know the basic fundamentals of "capitalism"? I only have a GED and flunked outta college but even I knew back in 2005 a serious crash was eminent. All I had to do is look back in history: the 80s S~n~L crisis, the 2000 stock market crash etc. All those "ignorant" experts should now lose their jobs, instead as usual the US taxpayer will put up the bill once again. As Yakov Smirnoff used to say: Whatta country!
4-22-2008 @ 3:05PM
Alouisis said...
This is inevitable. Why? Because, our congress has been bribed (yes, bribed) into taking the defaulted subprime debt off the hands of the banks and investors who loaned money to borrowers incapable of repaying and putting it into Freddie & Fannie loans that will default again and be guaranteed by - us, the taxpayers. Our congress (those who sponsored and voted for these laws) belong in jail. Accepting bribes, soliciting bribes, malfeasance and assorted other high crimes and misdemeanors.
Hand the S.O.B.'s