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As Fannie, Freddie Regroup, Impact May Be Minimal

By Albert B. Crenshaw and Ben White
Washington Post Staff Writers
Wednesday, September 29, 2004; Page E01

"As the American dream grows, so do we," mortgage finance giant Fannie Mae says of its explosive growth of the past decade.

Now, in the wake of accusations of accounting irregularities that its federal regulator says raise questions about the company's safety and soundness, the nation's financial and housing markets face a different question: Can the American dream grow if Fannie Mae doesn't?


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Thursday, 2 p.m. ET: Reporter David Hilzenrath will discuss the latest Fannie Mae developments
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For most of the past decade, Fannie Mae and its cousin and rival Freddie Mac have gone about their business in a way that has been beneficial for U.S. home buyers and profitable for the two companies.

They have borrowed money cheaply, which they can do based on their relationship with the federal government, and used it to buy mortgages that carry higher interest rates. They have held many of those mortgages in their portfolios, profiting handsomely from the interest rate "spread."

But their growth and their increasing dominance of the mortgage market have brought complaints from government officials, who see them as money machines abusing their status. Federal Reserve Chairman Alan Greenspan has said they "automatically profit" from their "subsidized" borrowing rates, while exposing the government to great risk if their business goes sour.

At the same time, competitors have kept up a drumbeat of complaints that the two companies have an unfair advantage in the marketplace.

Earlier this year, Freddie Mac chairman and chief executive Richard F. Syron said that while Freddie Mac's portfolio carries what he called "very low risk," the company "can't and shouldn't" expand it "the way it grew in the past."

"It clearly is both politically and financially . . . not feasible for us to begin to have people thinking that we're a hedge fund and running a pure arbitrage" business, he said, referring to Freddie's ability to profit from the difference in interest rates.

The exposure of accounting irregularities at Freddie Mac last year and questions about Fannie Mae this month have added fuel to the fire, and while a Fannie Mae spokeswoman would not comment directly, it is clear both companies will have to convince regulators that they are not abusing their position.

A key to increased safety at Fannie is to increase its capital, which is in effect a reserve that could be used to cushion unexpected reverses in the marketplace. But to increase capital, the company will have to change strategy, seeking to raise more cash and to reduce the risk that regulators see in its holdings, since the greater the risk, the greater the capital required.

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