Bipartisan Senate Proposal Envisions Home-Loan Market Without Fannie, Freddie

Nearly six years after the government rescued Fannie Mae and Freddie Mac, top members in the Senate and the White House agreed on a framework to wind down the mortgage giants and overhaul the nation's $10 trillion mortgage market. The bipartisan proposal, coming just as the firms have begun to generate huge profits for the Treasury, complicates the picture for a host of deep-pocketed investors who had bet that Fannie and Freddie would be restructured.

 

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After initially holding up on the news of the plan, Fannie shares fell 31% to $4.03 and Freddie stock slid 27% to $4.04. 

The plan, by Senate Banking Committee leaders Tim Johnson (D., S.D) and Mike Crapo (R., Idaho), calls for replacing Fannie and Freddie with a new system of federally insured mortgage securities in which private insurers would be required to take initial losses before any government guarantee would be triggered.

Fannie and Freddie, which don't make loans but instead buy them from lenders, were taken over by the U.S. during the 2008 financial crisis, with the Treasury providing nearly unlimited support. As the housing market has rebounded and reversed losses, the firms have become very profitable. The companies have sent more than $185 billion to the Treasury as dividend payments, and the White House budget office said Monday that the firms could return an additional $181.5 billion over the next 10 years.

The current arrangement, in which Fannie and Freddie are backing nearly three in five new loans while under government control, is "unacceptable," to Mr. Crapo. His proposal with Mr. Johnson provides a balance between providing broad access to mortgages while protecting taxpayers from losses.

Several firms have already filed lawsuits challenging the government's decision to require Fannie and Freddie to pay all of their profits to the Treasury as dividends, which prevents the firms from recapitalizing.

Critics are skeptical of any approach that does not end the permanent government guarantee in the secondary mortgage market. Industry groups believe that any such guarantees are needed to preserve broad access to the popular 30-year, fixed-rate mortgage.

The Senate framework would allow private entities to purchase an explicit government guarantee to cover catastrophic losses on mortgages issued as bonds from a new guarantor, similar to how the Federal Deposit Insurance Corp. regulates banks and provides deposit insurance to minimize bank runs. Rather than issuing separate securities with an implied federal guarantee as Fannie and Freddie did, the new system would see multiple firms issue a common security in which the government would stand behind the payment of principal and interest to bondholders, preserving the deep and liquid markets created over the last 30 years by Fannie and Freddie. (WSJ, 3/11/2014)