Fannie, Freddie Bailout Is Not a Cure-All

Editor's note: Our "On the Brink" series will provide daily insight into the financial firms facing capital shortfalls and the growing pressure from short sellers in the market.

The federal bailout of Fannie Mae(FNM) and Freddie Mac(FRE) set off a rally in financial stocks, but the only meaningful solution to the sector's downturn is something that even a limitless supply of capital simply can't provide: Time.

The initial phase of the mortgage giants' rescue plan, outlined by Treasury Secretary Henry Paulson on Sunday, is intended to bring mortgage rates down and improve pricing for mortgage-backed securities. In theory, it will spur the housing market by making homes more affordable and lift one cloud of uncertainty that has hung over housing debt.

But other factors will continue to drag on the housing market: High unemployment, low wage growth, paltry consumer confidence, and the declining home values that are causing many Americans to abandon their homes and mortgage payments in the first place.

"[T]he decision to buy a house is driven by the potential homeowner's confidence about their job and income, not mortgage rates," RBC Capital Markets analyst Gerard Cassidy wrote in a note Monday. "Mortgage rates drive the size of the home purchased."

Cassidy said the situation will improve only with time as banks filter through issues not only with housing, but other bad debts like non-residential construction loans. He estimates that will take two to three years' worth of further losses on the part of homeowners, lenders and investors.

The biggest losers so far, of course, have been shareholders of Fannie and Freddie, who each saw their equity value plunge more than 82% to below $1 a share on Monday. Some analysts predict further drops, with price targets as low as 25 cents, "sell" ratings galore and downgrades from major credit-ratings firms.