Fannie, Freddie, and Doomsday
By Arnold Kling
Shares of Fannie Mae and Freddie Mac tumbled again Thursday on a report that government officials have begun planning for a possible collapse of the mortgage finance giants.
As an investor, could you make a profit owning a 10-year bond that pays, say, 6.5 percent in interest?
Well, that depends. If you can issue 10-year debt at 6.25 percent, then sure. If your own borrowing rate is 6.75 percent, not so much.
For years, Freddie and Fannie have been able to borrow at cheaper rates than anybody else. The good news for them is that they earned nice profits. The bad news is that if their borrowing costs go up, then there is nobody they can sell to. If they need to sell assets to raise funds, they will have to sell them at a discount.
So, when I read this,
Fannie’s debt is also priced at the highest spreads over Treasurys since 2000
I have to figure that a meltdown is possible. The capital that Freddie and Fannie report assumes that they can continue to borrow at cheap rates. If they can’t, then all bets are off, so to speak. Even if their assets were transparent (which they’re not), they would have a tough time selling them at a decent price. Liquidation is not an option.
Have a nice day.