Fannie, Freddie Rally, but Issues Remain - TheStreet

Fannie, Freddie Rally, but Issues Remain

The government-sponsored mortgage giants still face depressed housing and credit markets.
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Fannie Mae

(FNM)

and

Freddie Mac

(FRE)

have rallied so far this week, but the issues that have knocked down the two government-sponsored mortgage giants largely remain.

Fannie closed Tuesday's trading session up more than 8% at $5.62, with Freddie rallying 21% to close at $3.97.

Fannie and Freddie were buoyed by several analyst notes casting doubt on the necessity or imminence of a government bailout that would wipe out shareholders and encouraging signs that the housing market may be

showing signs of improvement

.

However, housing prices continue to decline sharply and credit costs have accelerated -- factors that will cause further writedowns on the firms' assets and hurt their ability to operate efficiently. While the firms have been reporting strong demand at auctions, Fannie and Freddie were forced to offer more enticing yields to lure buyers. And while their mortgage portfolios expanded in July, so did delinquency rates on those mortgages.

Concerns about capital have been at the core of their problems, and Freddie has yet to find investors to put up at least $5.5 billion in capital that it promised regulators it would raise.

Despite the rally so far this week, both stocks are still down more than 90% over the past year. S&P Ratings on late Tuesday downgraded the firms' subordinated debt and preferred stock, showing that investor confidence may not dramatically improve until the outlook becomes clearer.

Common shares would be least protected in a government bailout, with preferred stock, unsubordinated debt also likely to get less protection than other bonds.

As a result, S&P downgraded the GSEs' risk-to-the-government stand-alone issuer credit rating to "A-" from "A"; their subordinated debt and preferred stock ratings to "BBB+" from "A-". All were placed on "negative" credit watch, implying the possibility of a further downgrade. The agency also affirmed its prime "AAA/A-1+" ratings on the GSEs' senior unsecured debt with a stable outlook.

The downgrades reflect "increasing uncertainty about whether government support will extend to these securities" if the firms' asset quality further deteriorates, S&P said.