Freddie Mac Gets Cash Infusion
Treasury Pumps $13.8 Billion Into Mortgage Giant After Firm Loses $25.3 Billion

By Zachary A. Goldfarb
Washington Post Staff Writer
Saturday, November 15, 2008

Freddie Mac will receive a $13.8 billion cash injection from the government, the company said yesterday, after it reported a $25.3 billion loss in the third quarter on the declining value of mortgage investments and other charges.

The capital injection is the first into Freddie Mac or Fannie Mae since the government took over the mortgage-finance giant in early September. Freddie Mac experienced heavy losses as its portfolio of mortgage securities -- including risky subprime-backed securities -- lost value and more borrowers fell behind or defaulted on mortgages. The company more than doubled its reserves to cover future losses. In addition, it wrote down the value of tax credits it was unlikely to use.

The company's losses, when combined with those since the housing downturn started, wipe out nearly all its earnings over the past decade.

And the need for government money may only be beginning, Barclays Capital analyst Rajiv Setia said in a research note. When the government seized McLean-based Freddie Mac and District-based Fannie Mae in September, it agreed to pump as much as $100 billion into each of the companies to prevent them from going broke, which would occur if their liabilities exceed assets.

Freddie Mac's huge loss punched a $13.8 billion hole in the company's balance sheet, prompting the taxpayer investment. That leaves Freddie Mac solvent but without any financial cushion.

As a result, under the agreement with the government, the Treasury Department will have to pump money into the company if it continues to report big losses.

"We expect another 'kitchen sink' quarter" when the company reports results for the final three months of the year and takes all the losses it can, Setia said.

The government has asked Fannie Mae and Freddie Mac to buy more mortgages, flooding lenders with cash in an effort to bring down interest rates on mortgages. So far, those efforts have been unsuccessful.

On Monday, Fannie Mae reported a $29 billion loss, bringing it close to triggering a government cash injection.

Freddie Mac said the economic downturn is creating what amounts to a second wave of problems in the housing market, citing declining home prices, increasing unemployment, a big fall in consumer spending and tightening of consumer and business credit.

After leveling off earlier this year, the company said, housing prices nationwide resumed their steep decline recently. Fannie Mae said housing prices were down about 10 percent from their highs and could fall as much as 19 percent before stabilizing.

Freddie Mac noted that the worsening economy was contributing to several worrisome trends. More borrowers are unable to pay their mortgages and are being forced into foreclosure.

And the company said there has been a "significant increase" in the number of borrowers struggling to pay their bills among people who received "prime" loans, not just the risky loans that started the mortgage crisis.

Freddie Mac said it was having trouble raising the long-term debt that finances its mortgage portfolios, limiting its ability to funnel money into the mortgage market to bring down rates.

But it made far less of that issue than Fannie Mae, which noted several times in its earnings report that it might not be able to fulfill the missions the government has assigned it or continue to meet its cash needs without additional help from the government.

The company said it expected to receive the government money by the end of the month. But the money would come with strings attached.

In exchange for access to the backstop, Freddie Mac gave the Treasury $1 billion in preferred stock and agreed to pay $100 million a year as a dividend. The value of the preferred stock will now grow to nearly $15 billion and the company will have to pay $1.5 billion a year as a dividend. And the dividend will only increase as the company receives more money from the government.

The size of the dividend might delay the company's return to profitability, Freddie Mac said.

If it continues to suffer losses, the company said, "we will be required to request additional funding from Treasury . . . which will further increase our ongoing dividend obligations and, therefore, extend the period of time until we might be able to return to profitability."

The company also has access to a line of credit from the Treasury, but it has not tapped that.

Some analysts say Freddie Mac might need more than the $100 billion the government has made available to it and might need a total of $40 billion by year's end.

Freddie Mac has other challenges. The company said yesterday that it is in a dispute with J.P. Morgan Chase because J.P. Morgan has refused to buy back bad mortgages sold to Freddie Mac by Washington Mutual. J.P. Morgan bought Washington Mutual earlier this fall. J.P. Morgan declined to comment.

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