FNM Preview: Too Many Moving Parts

If this was any other postulated housing/mortgage crisis, I would love to jump on a government-sponsored enterprise (GSE) bandwagon. Unfortunately, this has been the perfect storm for Fannie Mae (FNM - commentary - Cramer's Take) and Freddie Mac (FRE - commentary - Cramer's Take), and I worry that the information I need in order to make a profitable investment in the stocks may take some time to come out.

Starting with subprime mortgages, I was always a little wary of these from when Fannie started getting involved in the late 1990s because of political pressure. The mortgage insurance was there and Fannie Mae invested in them in AAA loan tranches, so at least it knew that it was playing with something that was high-risk.

In that vein, I think that Fannie's subprime exposure will turn out to be less toxic than that of other lenders. Unfortunately, the losses on most of its regular book are rising to unexpectedly high levels, possibly midteen-basis-point losses (or much more), and we do not know as yet where they will level out. Congress and the Administration want the GSEs to help get the economy out of this mess with new lending -- but maybe too much, or not enough.

"Maybe too much" because Fannie Mae is being pushed to fill the gap in jumbo lending, which is in geographies where there may well be more risk of losses if the housing market declines get too intense. Just look at the differing decline rates of the Case-Schiller Index vs. the Office of Federal Housing Enterprise Oversight (OFHEO). There is definite incremental risk here.

I stated "not enough" because the Bush Administration does not look exactly kind to the GSEs now. If the GSEs have turned their operational and risk management problems around, and they need to make more loans fast to turn the economy, why is OFHEO only freeing up 10% of the 30% of excess capital for more lending, with the proviso that the GSEs raise an equivalent amount of capital on their own?

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At the time of publication, Thomas had no positions in the stocks mentioned.