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Rep. Barney Frank warns of Fannie, Freddie risks

(Brendan Smialowski/getty Images)
By Zachary A. Goldfarb
Saturday, March 6, 2010

An influential voice on Capitol Hill has unexpectedly called into question the safety of investing in Fannie Mae and Freddie Mac, raising the specter that investors who have lent money to the two firms or bought their mortgage-backed securities could one day suffer losses.

The comments by Rep. Barney Frank (D-Mass.), chairman of the House Financial Services Committee, forced the Treasury Department to issue a statement Friday reaffirming the government's commitment to the companies, their creditors and their investors.

If investors come to doubt that Fannie Mae and Freddie Mac debt and investments are risk-free, they would demand a higher return -- which could ripple across the U.S. housing market and cause mortgage interest rates to rise, depressing demand for homes. The federal government seized Fannie Mae and Freddie Mac a year and a half ago and, since then, has signaled that lending to the companies or buying their investments is just about as safe as putting money into U.S. government debt.

But in an interview Thursday, Frank said, "People who own Fannie and Freddie debt are not in the same legal position as [those who own] Treasury bonds, and I don't want them to be."

Frank said he wanted to make it absolutely clear to creditors of and investors in Fannie Mae and Freddie Mac that the companies are not as safe as the U.S. government. As the government considers how to overhaul the mortgage finance giants, he said he would expect "to preserve the right to give people haircuts."

Frank's remarks came in the context of a discussion about possible ways the federal government could overhaul Fannie Mae and Freddie Mac, which have together received more than $100 billion in emergency federal aid from the U.S. Treasury to cover their losses.

In the bond markets, investors reacted modestly Friday to his remarks. But some analysts warned that they could roil the struggling mortgage market.

"It's hard to imagine anything more disruptive for the housing finance system in this country at this point than a statement by a responsible official that Fannie and Freddie's obligations might not be paid," said Peter J. Wallison, a fellow at the American Enterprise Institute.

Mixed signals?

Some analysts said Frank's statements could send conflicting signals to investors.

"We think that most domestic investors understand the Treasury relationship regardless of what Barney Frank says," said Margaret Kerins, an analyst at RBS Global Banking and Markets. "The fear is that international investors do not like headline risk and they may not purchase this debt as many were hoping."

Frank repeated his comments about potential investor losses on Friday morning while speaking with reporters at a conference in Washington. He later elaborated on his remarks, saying the Treasury Department should stand behind the debt issued by Fannie and Freddie after September 2008, when they were seized by the federal government. But, he said, the same guarantee should not apply to debt issued before the seizure or once the government ultimately ends its control of the firms.

"Throughout the debate over Fannie and Freddie in past years, I have noted that Fannie and Freddie debt did not have the same legal standing as Treasury debt," he said in a written statement issued Friday to clarify his earlier remarks. "This does not prevent the Treasury from treating the debt of Fannie and Freddie in the manner that it believes best supports the important goal of stabilizing the financial system."

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