Washington's 'too-big-to-fail' fearsEarlier this month, National Economic Council Director Gene Sperling said President Barack Obama would reject proposals by hedge funds to take over Fannie Mae and Freddie Mac. "I want to make clear, the Obama administration believes the risks are too great that this model would recreate the risks of the past," he said. He clarified that their size and infrastructure would enable the two GSEs to stifle competition and raise entry barriers within the securitization market. “All of us should fear that we could re-create a duopoly that the market would perceive as too-big-to-fail market entities with an implicit government guarantee, the core of the failed GSE business model we are trying to replace,” he said. Hedge funds investors such as Bill Ackman and Bruce Berkowitz have acquired substantial chunks of the publicly available common and preferred stock in the two companies and have proposed to take over their business.
Bove on the implicationsBove's research finds the practical realities of the mortgage finance business make the government's proposed actions untenable. The simple fact is that the 20/30-year FRMs, essential elements of America's housing finance industry, would cease to exist in the absence of buyers such as Freddie and Fannie.
Says Bove, "In the past week I have contacted a small number of large banks and asked whether they would originate and hold 20 and 30 year self-amortizing, fixed-rate mortgages if there was no Fannie Mae or Freddie Mac. The universal answer was "No!""This is because no bank would be willing to assume the risk on such long-duration, fixed rate loans that could become instantly unprofitable in the event of a rise in interest rates. "Banks might make 15 year self-amortizing mortgages but it is very unlikely that they will carry fixed rates. The standard mortgage in the United States is like to be a 10-year, self-amortizing, adjustable-rate mortgage," says Bove. The fallout on the housing market if the 20/30-year FRMs vanish would be colossal. The cost of owning a home would rise and this could trigger a collapse in housing prices, with the attendant adverse effect on the country's economy.