More mortgage misery: Freddie Mac loss ‘shock’ to economy
One of the last sanctuaries in the mortgage market was threatened Nov. 20 as Freddie Mac revealed big losses that might force it to conserve capital and cut back on purchases of mortgage loans.
The development, coming a day after Fannie Mae reported similar financial strains, occurs at a time when Fannie’s and Freddie’s conforming loans have become just about the only game in town for home buyers as the private market for mortgage securities has all but dried up.
The problems at the mortgage giants threaten the highest-quality loans — not just the subprime market.
The $2 billion in third-quarter losses announced by Freddie Mac are an “adverse shock” to the economy of the kind that could force the Federal Reserve to cut interest rates again to prevent the spreading credit crunch from pulling the economy into recession, said Harm Bandholz, economist at Unicredit Markets.
Even before the threat to prime loans emerged, new construction on single-family homes last month plummeted 7.3 percent to levels not seen since the deep housing recession of 1991, the Commerce Department reported. Housing construction and permits are down nearly 50 percent from their peaks in September 2005, and economists say the credit crunch will send them tumbling further.
“This is a very, very difficult time. This is not happy news,” said Richard Syron, Freddie Mac’s chairman and chief executive officer, in a conference call with Wall Street analysts. “We will work through this.”
Freddie said it set aside $1.2 billion to cover losses on default- ing loans, and it is trying to avoid having to set aside more reserves — a move that would force the mortgage agency to cut back on loan purchases from banks. It has hired Goldman Sachs and Lehman Brothers to come up with creative ways of raising capital.
Freddie’s positive spin failed to prevent its stock from plummeting nearly 30 percent, its biggest loss in two decades. Fannie Mae stock was not far behind, dropping 25 percent in value.
Freddie Mac’s problems threaten many other companies and banks providing mortgages.
The stock of Countrywide Financial Corp., which earlier this summer saved itself from bankruptcy by declaring it would make only conforming loans that could be bought by Fannie and Freddie, retreated as much as 22 percent Nov. 20 on fears that it will not be able to sell its loans and be forced into default. After the company denied the rumors, its stock recovered to end the day with a 2.7 percent loss.
The constraints confronting Fannie Mae and Freddie Mac are similar to those plaguing banks and savings and loans faced with spiraling losses that are forcing them to cut back on mortgage lending. Amid rising defaults among their portfolios of loans and mortgagebacked securities, all of the lending institutions are forced to set aside reserves to cover losses — leaving them with less money to lend.
The Office of Thrift Supervision said that troubled loans have nearly doubled to $18.7 billion at the nation’s thrifts in the past year, forcing them to quadruple their reserves. The government agency said losses have been concentrated among large institutions like Washington Mutual Inc., which sold their loans to investors, rather than smaller institutions that made better-quality loans and kept them in their own portfolios.
With losses escalating on prime as well as subprime loans, lenders are becoming more conservative. They not only are rejecting loan requests from marginal borrowers, they are imposing stricter requirements on prime borrowers. Some borrowers are making larger down payments to get loans.
A Fed survey earlier this month found that more than 40 percent of banks have tightened their lending standards for prime borrowers, and more than 60 percent have cut back on loans to subprime borrowers. Loans with loose terms like no down payments and low teaser interest rates — freely available six months ago — are all but gone today.
If you build it, will they come? Charles Lee cuts wood for a Toll Brothers home under construction in Cary, North Carolina on Nov. 20. Homebuilding permits in the U.S. have slumped to their lowest level since 1993 and construction of single-family homes has tumbled, indicating the housing industry has yet to reach bottom.