subject: The downwind of Fannie Mae and Freddie Mac [print this page] The downwind of Fannie Mae and Freddie Mac
By IBISWorld senior analysts Robert Andrews and Taylor Hamilton
As Heard on CNN Radio's "The Wall Street Shuffle." Click here to listen.
In response to the catastrophic losses and conservatorship in the mortgage market (tax payers have lost nearly $134 billion and this is expected to grow somewhere between $224 billion to $260 billion) the Obama administration announced plans to cede control and decrease future taxpayer liabilities in the mortgage market. IBISWorld identified the pros and cons of three potential government solutions and looked at just which companies stand to benefit:
Solution 1: Limited Federal Housing Admin (FHA) loans
If federal guarantees were limited to FHA loans, the vast majority of the mortgage market would be in the hands of the private sector where lenders would originate mortgages and securitize them without any government backing.
Pros: This solution would reduce moral hazard in the mortgage market, reduce taxpayer backstop by 10% to 15% over time and provide less incentive to invest in housing, which would distribute more capital to other areas of the economy.
Cons: This solution could reduce access to credit for some home buyers; reduce the availability of the 30-year-fixed mortgage and possibility of rise in mortgage interest rates; and leave the government without the tools to intervene in future crises.
Solution 2: Decreased power of Fannie and Freddie
The Obama administration may elect to decrease the power of Fannie Mae and Freddie Mac, keeping it small in normal times but standing ready to step in if there is a future housing crisis.
Pros: This solution would result in smaller government involvement, limited moral hazard and help avoid overinvestment in the residential real estate market.
Cons: This solution could present a challenge in staying small while retaining the capacity to go large when needed.
Solution 3: Tightly regulated private insurers
The government may create a group of tightly regulated, well-capitalized private mortgage insurers whose policies would be backstopped by government reinsurance.
Pros: This solution could mean that the private market will not have to bear the full burden of the mortgage losses and that mortgage interest rates would rise, but probably by less than 50 basis points (smaller than the other two solutions).
Cons: The downside to this solution is the increase in moral hazard, with the private sector profiting while the public is at risk, and similar losses as have occurred at Fannie and Freddie could occur again if the government does not price reinsurance accurately.
Companies benefiting from the downwind of Fannie Mae and Freddie Mac
The companies that stand to benefit from these solutions are big banks, like JP Morgan Chase (JPM), Bank of America (BAC), Citigroup (C) and Wells Fargo (WFC), because they are really the only ones that have enough balance sheet to step into the place of Fannie and Freddie. Specifically, JPM and BAC have the largest assets among US banks at $2.1 trillion and $2.3 trillion, respectively, as of Dec. 31, 2010. Both were up more than 2% when the financial sectors increased by only 1.1% on average.
Companies with mortgage insurance operations like MGIC Investment Corp (MTG), Radian Group Inc. (GNW) and Genworth Financial (GNW) stand to benefit as well; however, the fact that three solutions were proposed instead of one clear recommendation illustrates a lack of consensus in the administration or congress.
