Freddie Mac, a Buffer Against Crisis, Posts $2 Billion Loss

By Thomas Heath
Washington Post Staff Writer
Wednesday, November 21, 2007

The mortgage funding giant Freddie Mac said yesterday that it lost $2 billion in the third quarter, offering fresh evidence that the declining housing and credit markets are taking their toll on companies that were once thought to be bastions of stability.

Freddie Mac, of McLean, and its larger rival, Fannie Mae, of the District, were chartered by the government to keep money flowing to mortgage lenders in good times and bad. But both have seen their roles limited in recent months as they take on rising losses from bad loans and are forced to write down the value of their vast portfolios.

Their struggles come as the nation's credit markets are tightening, exacerbating the turmoil in the mortgage industry. The two companies alone had a hand in more than 60 percent of all mortgages originated last quarter. The upshot, according to some analysts, is that interest rates could increase, scaring away more buyers and adding to declines in home values.

Freddie Mac executives said the company's losses on bad mortgages would probably exceed $10 billion, more than double what the company has written off so far.

"This is a very, very difficult time," Freddie Mac Chairman Richard F. Syron said in a conference call with analysts yesterday. "This is not happy news. We realize that. We will work through this."

Freddie Mac's disclosures rippled through the mortgage industry, helping fuel concerns that a growing credit squeeze could push more lenders into bankruptcy. Countrywide Financial, the nation's largest residential mortgage lender, moved to reassure investors, declaring that it had ample cash to weather the storm. The deepening problems increase the chances the Federal Reserve will cut a key interest rate further in the coming months, several economists said.

Freddie Mac and Fannie Mae touch $4.8 trillion in housing loans, either by buying loans or by guaranteeing pools of loans, which are sold to investors as securities. The bulk of their business is in higher-quality loans, and the companies are prohibited from investing in so-called jumbo mortgages, which exceed $417,000. They make most of their money by charging fees on the loans they have bought or securitized.

Their impact on the broader mortgage market is significant because by guaranteeing another lender's loans, they effectively free up that lender's capital so that more money is available for home purchases -- an important consideration when credit markets tighten.

"The whole reason Fannie and Freddie exist is to help in times like these," Sen. Charles E. Schumer (D-N.Y.), who chairs the Senate Banking Committee's housing subcommittee, said in a statement. "This tells us that the worst is yet to come."

Freddie Mac's chief financial officer, Anthony S. "Buddy" Piszel, said the company does not expect to see a turnaround in housing for two years. "When we look at the way the market is valuing credit right now, it's a severe view," Piszel said.

The $2.03 billion third-quarter loss came out to $3.29 a share, compared with $1.17 a share for the corresponding period in 2006. Freddie Mac said it had to set aside $1.2 billion during the quarter as a reserve against bad home loans, and it reduced the value of its assets by $3.6 billion.

Freddie Mac shares dropped 28.7 percent yesterday, closing at $26.74. The stock is down 60 percent in the past year.

The company has asked regulators to reduce the amount of capital the company must keep in reserve to cover future losses and other liabilities. The Office of Federal Housing Enterprise Oversight has refused.

Freddie Mac said it was considering cutting its $2 annual dividend in half to bolster its reserves. The company also retained Lehman Brothers and Goldman Sachs to help it raise money.

Should the company not be able to raise the money it needs, it may slow down its purchasing of mortgages.

"Freddie Mac's announcement of the steps it intends to take reflects prudential actions for the company that are appropriate in light of current market conditions," OFHEO Director James B. Lockhart said in a statement. "These actions should enhance its ability to continue to fulfill its housing finance mission. We will continue to monitor the mortgage markets and the enterprises closely."

The executives at Freddie Mac and Fannie Mae are among the highest paid in the Washington area. Last week, Freddie signed an amendment to Syron's contract that entitles him to what the company calls a "special extension bonus" of $3.5 million if he stays through 2009. That would be on top of a $200,000 raise, bringing his base salary to $1.3 million. Syron's total compensation is well over $10 million a year, according to Freddie Mac's proxy statement.

Both companies have come under scrutiny in recent years for separate accounting scandals, and they are closely supervised by regulators.

"There is no danger of them going bankrupt," said Howard Shapiro, an analyst with Fox-Pitt, Kelton. "The real question is how bad is this for the mortgage market and the housing downturn. To the extent that they are growth-constrained and Fannie Mae is growth-constrained, there is less capital in the mortgage markets. That means the cost of buying a home will go up. Fewer people will buy homes. The decline in home values will be exacerbated. It's not good news."

Paul Miller, an analyst with Friedman, Billings, Ramsey Group in Arlington, said there was one slice of the mortgage market that Freddie Mac's loss did not appear to affect, that of higher-quality traditional loans.

"The market where Fannie and Freddie normally operate, which is the market for relatively safe loans, also known as the agency market, was not impacted with Freddie's earnings release," Miller said. "It tells me the mortgage market is still relatively stable for your traditional borrowers, the plain vanilla, 30-year, fixed-rate mortgages."

Staff writer Neil Irwin and staff researcher Richard Drezen contributed to this report.

© 2007 The Washington Post Company