Richard X. Bove, Vice President Equity Research at Rafferty Capital Markets, highlights the government taking control of the mortgage markets and depriving Fannie Mae and Freddie Mac of any capital by December 31, 2017.
Fannie Mae: Who Owns the U.S. Mortgage Markets?
The United States government has taken total control of the mortgage markets in this country:
- The payments on one of every four new residential mortgage loans are insured by the government.
- The government buys 1 of every six residential mortgage loans issued for its own account.
- Though the Government Sponsored Enterprises the government either owns or insures 3 of every 5 mortgage loans currently outstanding in the country.
Moreover, the government is increasing its ownership and control every quarter. The primary reason this is happening is because the government is increasing its direct ownership of these loans.
- Fannie Mae (FNMA/$1.80/Buy) and Freddie Mac (FMCC/$1.71/Buy) are at the top of the mortgage sector. They own or insure $4.6 trillion in residential mortgages or 45.9% of the market up from 41.9% in 2009.
- The private sector is second largest. It controls $3.9 trillion in mortgages or 38.8% of the total loans outstanding. Its share is down from 52.3% in 2009.
- At the bottom, and fastest growing, is Ginnie Mae. This wholly owned agency of the United States government owns $1.5 trillion in loans or 15.2% of the market up from 5.7% in 2009. It is growing so fast that it is taking market share from both the GSEs and the private sector.
Insurance of mortgage loan payments is also growing rapidly once again. The reason is the government’s heavy intervention in the market through the Federal Housing Administration; the Department of Veterans Affairs; and the Department of Agriculture.
Market shares in this business are split as follows:
- The Federal Housing Administration (FHA) has taken its share of this insurance market from 23.6% in 2004 to 40.6% in 2015. When its market share began to slip in 2014, the FHA reacted. In January 2015, it cut its rates by 50 basis points and regained its lost share.
- The Department of Veterans Affairs has basically maintained its share of the market slipping slightly from 23.7% in 2004 to 22.8% in 2015.
- The private sector private mortgage insurers gave up share. They held 66.6% of the market in 2004 and hold 33.8% today. They are regaining strength, however, from the low point of 14.9% in 2009.
Best available numbers now show mortgages with insured payments are at a century high.
Reasons Government Improved Its Position
There are a number of reasons as to why the government took such a dominant share of the mortgage markets:
- It established a series of programs to assist homeowners who were about to lose their homes.
- It changed the rules in banking so that banks pulled away from originating a wide variety of mortgages.
- It pushed mortgages back to the banks from the GSEs and reneged on FHA guarantees.
- It allowed mortgage bankers and brokers to take share away from the banks in originating loans.
This last point is most critical because while the mortgage brokers are able to locate and originate mortgages, they lack the funding to hold these mortgages on their balance sheets. They need to sell the loans they originate to government sponsored agencies. Moreover, since Fannie Mae and Freddie Mac have tightened their underwriting standards the mortgage broker rapidly understands the easiest place to have a loan approved is to run it through the FHA and sell it to Ginnie Mae – i.e., the government.
Thus, because the President, the Congress and the courts believe that the wisest course is to do nothing to resolve the open issues in the mortgage industry, the government is dramatically increasing its ownership of the mortgage markets. Plus, it is buying the loans with the weakest fundamental characteristics – i.e., lowest down payments.
The problem with this “do nothing” approach to the industry is that the current situation cannot persist. As part of its control of the mortgage markets, the government has mandated that Fannie Mae and Freddie Mac have no capital by December 31, 2017. To insure that this happens, the Treasury Department takes all of the two companies’ earnings and, then some, every quarter. The result is that at this point the two companies are insolvent.
Neither company has any common equity. Plus, the junior preferreds in both companies have no value because the government has as a matter of policy eliminated any prospect of their receiving dividends. Thus, the adjusted equity in both companies is negative as a percent of assets.
The markets to this point appear to be content with the current arrangement because it is assumed that the United States has taken control of Fannie Mae and Freddie Mac through its conservatorship. In essence, lenders view Fannie Mae and Freddie Mac debt as debt guaranteed by the full faith and credit of the United States government.
However, it is not clear that this is the case or that the government would honor this debt in a crisis. The managements of both companies indicate that this is not an issue because both companies have the opportunity to draw down more money from the Treasury once their equity which includes the junior preferreds is gone.
While it is true that both companies have the legal right to borrow this money from the Treasury, the question is can they actually do so? What would happen if the politicians heard that the Treasury had bankrupted Fannie Mae and Freddie Mac?
I would argue that if either of these companies were to seek money from the government during this Presidential election it would become an explosive issue.
I do not believe that the current Administration could defend its actions in bankrupting both companies or in driving them into insolvency. The whole government approach to financial stabilization, which is now not trusted because bank stocks are plunging, would be called into question. Time is ticking on the GSE issue because they are totally incapable of meeting their obligations if the country slips into recession – and Mel Watt, the GSE regulator knows it.
If Fannie Mae and Freddie Mac seek more money from the government, the lynch pin will have been pulled on the government owned mortgage markets. The little boy will have pulled his finger out of the dyke and housing will be inundated.