Rescue of Fannie, Freddie calms markets for now
A U.S government plan to shore up mortgage finance firms Fannie Mae and Freddie Mac helped calm markets on Monday but did little to allay fears about the health of the U.S. financial system.
The U.S. Treasury and Federal Reserve plan, announced on Sunday evening, called for measures to lend money and buy equity if necessary in Freddie Mac and Fannie Mae, government-sponsored enterprises (GSE) owned by shareholders.
Fannie and Freddie own or guarantee $5 trillion of debt, close to half the value of all U.S. mortgages. Foreign central banks, mostly in Asia, hold $979 bln of the bonds and mortgage-backed bonds sold by the agencies.
Both stocks plummeted more than 40% last week on fears the companies, pillars of the housing market, were under capitalized. Freddie was due to sell $3 bln of three- and six-month bills later in a crucial barometer of market appetite for agency securities.
A collapse of one of the agencies had the potential to unleash more turmoil in the world's financial markets and inflict a deep recession on the United States that could chill growth everywhere.
"(Their) continued strength is important to maintaining confidence and stability in our financial system and our financial markets," U.S. Treasury Secretary Henry Paulson said in a statement that he read on the steps of the Treasury building.
The dollar jumped, safe-haven U.S. Treasuries fell and stock futures rallied on the message of support from Washington. The Berlin-listed shares of the two agencies rallied on Monday, with Freddie soaring 44% and Fannie up 8.5%.
Asian stock markets later yielded ground as investors grappled with implications for the financial sector.
"Steps to shore them up is a positive but the fact that they are having difficulties in the first place is just symptomatic of a difficult environment out there. And that makes it hard to get too positive," said Greg Goodsell, equity strategist with ABN AMRO in Sydney.
Debt from the two agencies barely traded in the Asian day as investors waited to see how the New York market would react.
Portfolio managers in the United States and Asia said they were comfortable holding the bonds and Freddie's sale should go fine. Russia's central bank, which holds about $100 bln of agency debt, said on Saturday it did not have problems holding the paper.
Ryan declined to say whether Fidelity International, which managed $260.9 bln in assets at the end of March, had increased or reduced holdings of agency debt in its portfolio as a result of the measures.
Bill Gross, who manages the $130 bln Pimco Total Return Fund, told Reuters while the plan did not explicitly guarantee the bonds of Fannie Mae and Freddie Mac, "it tells the market that the government will not allow them to fail."
Gross predicted regulatory changes for Fannie and Freddie, which could make their bonds "look more like Treasuries in terms of yield and credit quality, as will the mortgages that bear their name."
Both Freddie and Fannie said they were adequately capitalized but welcomed the government support.
The Treasury said it would temporarily raise its line of credit to the two mortgage financiers, as well as purchase equity in them, a step never taken before, if needed.
The Fed said Fannie and Freddie could have access to its emergency cash. It held out a similar lifeline to investment banks after organizing a takeover of ailing investment bank Bear Stearns in March as it moved to calm markets roiled by the worst housing slump since the Great Depression 80 years ago.
The credit crisis triggered by the meltdown in the U.S. mortgage market claimed another casualty last week when U.S. bank regulators seized mortgage lender IndyMac Bancorp in the third-largest bank failure in U.S. history.
SENTIMENT TO IMPROVE
Shares of Freddie and Fannie have been hammered by concerns that they might run out of capital as they face mounting home-loan losses.
Fannie and Freddie buy mortgages from lenders and package them into guaranteed securities, providing more funds for mortgage markets.
They also borrow regularly on capital markets to fund operations. Freddie plans an auction of $3 bln in 3- and 6-month notes on Monday.
A senior Treasury official said the rescue plan for Fannie and Freddie needed congressional approval.
Democrats in the Senate and House of Representatives said they were ready to work with the Republican administration of President George W. Bush.
Freddie and Fannie debt rallied sharply on Friday as investors bet they would get closer government backing.
Treasury said its temporary increase in the line of credit that the GSEs now have with Treasury, would be up to an amount to be determined by Paulson. The current credit line for each lender is $2.25 bln.
July 14, 2008, Financialmirror.com