Will Fannie Mae / Federal National Mortgage Assctn Fnni Me (OTCBB:FNMA) and Freddie Mac / Federal Home Loan Mortgage Corp (OTCBB:FMCC) be dissolved in five years? That may be the million dollar question right now. The future of both government-sponsored entities continues to hang in the balance after becoming more precarious after the introduction of the Johnson-Crapo bill.

Fannie Mae Freddie Mac FHFA Federal National Mortgage Assctn Fnni Me (FNMA)

Will the Johnson-Crapo bill pass?

Deutsche Bank analyst Steven Zeng gives the bill a 10% to 15% chance of passing this year, while Nomura analyst Ohmsatya Ravi and the rest of the team seem to be suggesting that it could indeed pass, although they don’t give a time frame. Zeng notes that there are a number of hurdles to the passage of the bill. For example, Republicans in the House could resist its passage, as could hedge funds, which have been protesting the dissolution of Fannie Mae / Federal National Mortgage Assctn Fnni Me (OTCBB:FNMA) and Freddie Mac / Federal Home Loan Mortgage Corp (OTCBB:FMCC) for some time.

In addition, the public’s attention could be diverted because of midterm elections, and Democrats might not feel enough urgency to pass the bill because the new head of the Federal Housing Finance Agency has brought policies which are similar to their own.

Zeng says they’re looking “to the agency spread curve for information about the likelihood of the bill’s passage.” Between 2000 and 2007, the five-year and 30-year spreads had an average difference of 10 basis points, but over the last year, it had averaged about 50 basis points.

Maybe the Fannie Mae / Freddie Mac bill will pass

On the other hand, the Nomura team points to a particular paragraph in the Johnson-Crapo bill which they find particularly interesting. One of the points of contention regarding Fannie Mae / Federal National Mortgage Assctn Fnni Me (OTCBB:FNMA) and Freddie Mac / Federal Home Loan Mortgage Corp (OTCBB:FMCC) is how quickly government-insured MBS could be available. They see a statement which they believes they could be available sooner than what markets thought before—as early as six months after enactment of the bill.

The Nomura team does, however, note that other housing finance reform proposals in the past haven’t gone anywhere and that the Johnson-Crapo bill needs more revisions before it will be enacted.

What will happen if it passes?

Deutsche Bank analysts offered some answers to common questions they have regarding the Fannie Mae / Federal National Mortgage Assctn Fnni Me (OTCBB:FNMA) and Freddie Mac / Federal Home Loan Mortgage Corp (OTCBB:FMCC) bill. They note that the bill is “credit-positive for the long-maturity sectors” and that if it passes, it “should help compress long-end agency spreads and flatten the spread curve.”

The Johnson-Crapo bill suggests that Fannie Mae / Federal National Mortgage Assctn Fnni Me (OTCBB:FNMA) and Freddie Mac / Federal Home Loan Mortgage Corp (OTCBB:FMCC) could wind down over five years, although the FMIC could recommend to extend that deadline. With each extension, the affirmative vote required to wind the down increases. The pace of wind-down would be at 15% a year.

After both entities are dissolved, all of their debt will be extinguished through a trust. Zeng believes that before they are terminated, they could call back or make tender offers for buying back their debt, which “would probably lead to the eventual richening of long-dated callables and also long-maturity, high-coupon bullets.”

After Fannie Mae / Federal National Mortgage Assctn Fnni Me (OTCBB:FNMA) and Freddie Mac / Federal Home Loan Mortgage Corp (OTCBB:FMCC) are wound down, Zeng says Federal Home Loan Banks will become the main issuers of agency debt.