By now everyone has heard about the historic bail out of Fannie Mae (NYSE: FNM) and Freddie Mac (NYSE: FRE) by the government. In the short term this looks like a good move. The two companies are saved from insolvency and they can continue with business as usual. Is this good or bad in the long run? I think it depends on how ready FHA is to take the lead in mortgage lending in America.
Look at some of the ramification of the take over.
- The CEOs will be fired - Great… it should have happened a long time ago.
- The boards will be replaced - same as above!
- There will be restructuring of the balance sheets - not so good!
The devil is always in the details.
The restructuring will result in a new class of stock to be created that has precedence over current stock holders. This new senior preferred stock will earn 10% a year.
Fannie and Freddie will be required to make major cuts in their mortgage holdings. Over several years they will have to cut their portfolios by almost 70%.
Mortgage rates are currently in the 6% range - Fannie and Freddie will be forced to borrow at 10% - you do the math!
With Fannie and Freddie cutting their portfolios by more than two-thirds this means that conventional mortgage money will be choked at the source.
This leaves FHA as the sole survivor. Let’s face it with Fannie and Freddie cut to one-third of their original size they will become secondary players. Is HUD prepared for the role it is being thrust into. For years this agency has taken a back seat and is now at 3 times it’s former production levels. This change will put a substantially larger burden on HUD.
Let’s hope that HUD is up to the challenge.
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