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A federal regulator is complicating New York State Attorney General Andrew Cuomo's crusade against

Washington Mutual

(WM) - Get Waste Management Inc. Report


The Office of Federal Housing Enterprise Oversight, which regulates government-sponsored mortgage enterprises

Fannie Mae

( FNM) and

Freddie Mac

( FRE), said Thursday that it disagrees with Cuomo over subpoenas he issued to the two big mortgage investors.

On Wednesday, Cuomo issued the subpoenas in expanding an investigation into the appraisal practices of a subsidiary of

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First American

(FAF) - Get First American Corporation (New) Report

. Cuomo has alleged that the First American unit, eAppraiseIt, conspired with WaMu in a scheme to boost fees by inflating house-price appraisals. WaMu and eAppraiseIt have said they acted lawfully.

"I am disappointed that your office did not contact OFHEO before or even after subpoenaing the GSEs and issuing certain threats regarding their future business activity," wrote OFHEO director James Lockhart. He said he believes Cuomo may not understand Fannie and Freddie's role in the industry.

Cuomo has slapped a lawsuit on First American and its subsidiary eAppraiseIT alleging the firm conspired to inflate house-price appraisals in an effort to boost its fees. These would be appraisals tied to loans made for WaMu customers and then packaged and sold by WaMu to Fannie and Freddie. Cuomo has not sued WaMu, citing jurisdictional questions.

Cuomo's lawsuit says that eAppraiseIT "caved to pressure" from WaMu to use a list of appraisers who inflated the values of thousands of homes. Cuomo's suit alleged that executives at eAppraiseIT "knew their behavior was illegal, but intentionally broke the law to secure future business with WaMu."

Shares of Washington Mutual dropped a whopping 17% on Wednesday after Cuomo expanded the investigation and the Seattle bank issued a bleak outlook for the housing market next year. Shares were down another 5% on Thursday, while Freddie Mac fell 4% and Fannie Mae fell around 2%.

Observers say that the potential implications on WaMu if Fannie Mae or Freddie Mac cease purchasing loans from the bank could be significant since the demand for mortgages in the secondary market is virtually at a standstill since the subprime meltdown. Any decline in sales to Fannie and Freddie could seriously damage WaMu's business.

Cuomo's office did not immediately respond to requests for comment regarding the OFHEO letter.

Fannie and Freddie have agreed to Cuomo's demand to appoint an independent examiner to probe their dealings with WaMu, particularly the appraisal process.

But Lockhart's letter claims that "after reviewing these materials, I feel that you and your staff may not fully understand the differences between the mortgage-backed securities issued by the GSEs and those issued by other entities." He notes that because Fannie and Freddie retain the credit risk of the underlying mortgages they securitize and sell with their guarantee of repayment, "they have no economic incentive to knowingly purchase or guarantee mortgages with inflated appraisals."