U.S. Government Seizes Control of Fannie & Freddie–
Mortgage Rates Plummet
What’s Next?
By M. Scott North– SunTrust Mortgage
Monday, September 8, 2008

Over the weekend, The U.S. Federal Government announced the take over of Fannie Mae and Freddie Mac. This shocking announcement
came as the government felt these two vital institutions will no longer be able to meet their mission which is to provide
liquidity and stability to the housing market.
As we mentioned in previous articles, investor appetite for mortgage bonds through Fannie Mae and Freddie Mac have dropped dramatically
especially from foreign investors over fears the housing market as many more losses to come. One of Fannie’s and
Freddie’s key tool to keep liquid is through the sale of their bonds, which over time mature and need to be paid back. The way they
pay off maturing bonds is through the issuance of new bonds every month. Over the past several months, both Fannie and Freddie
have been raising yields on the bonds and tightening underwriting standards to attract more bond investors. The problem with this
approach is it keeps mortgage rates higher and excludes more potential buyer’s into an already lean buyer pool. Thus, both Fannie
and Freddie are stuck in this vicious cycle and now dragging the overall economy down with it.
The Federal Government decided to act now instead of letting the threat of insolvency continue to weigh on investor confidence.
The immediate market reaction to the Fed’s announcement sent Fannie and Freddie Bond prices up by over 100 basis points which is
the equivalent of dropping mortgage rates by 0.25%. The Dow Jones, which has been hammered in recent weeks, also got a boost by
nearly 180 points by 1 PM today. Wall Street loves the take-over announcement because investors hate uncertainty and the bail out
is thought to help keep mortgage rates lower to jump-start the housing industry.
Today’s euphoria may be short-lived though. Mortgage rates are usually affected more by inflation which has been fueled by higher
gas prices. With the peak of the hurricane season and another serious threat to the Gulf State in Hurricane Ike, oil prices could shoot
back up if the oil industry takes a direct hit. So far, investors in oil are not hedging for this and are waiting to see what this latest
hurricane will actually do. Another problem is the government taking on enormous debt to an already ballooning deficit. This puts
more risk on the governments shoulders and as a result, the U.S. dollar loses value as it did this morning. U.S. Treasury prices also
dropped causing yields to jump because of the inherent risk in the bail-out. These factors tend to keep mortgage rates higher because
a weak dollar keeps inflation higher.
The good news for the housing industry in the short-run is that rates are down significantly and this is a clear sign to buyers that they
should buy now before rates do go back up. This should also help improve real estate investor confidence and help stabilize prices as
more investors also realize that now truly is the time to buy.