U.S. government seized two of the nation's largest financial companies

The government is taking responsibility for THE funding for most new home mortgages. Advice: put your money into Gold and Unique-Rare Real Estate, like the Texas Gulf Coast

Treasury Secretary Henry Paulson plans to take control of  mortgage giants Fannie Mae and Freddie Mac and replace the companies' chief executives. The Treasury has pledged to provide as much as $200 billion to the companies as they cope with heavy losses on mortgage defaults. 

Watch Video

The Treasury's plan puts the two companies under a conservatorship, giving management control the Federal Housing Finance Agency, or FHFA.

With that, the U.S. mortgage crisis entered a new and uncharted phase, potentially saddling American taxpayers with billions of dollars in losses from home loans made by the private sector. Bush administration officials argued that the cost of doing nothing would be far greater because of the toll on the economy of falling home prices and defaults in the $11 trillion U.S. mortgage market.

Mr. Paulson noted that more than $5 trillion of debt and mortgage-backed securities issued by Fannie and Freddie is owned by central banks and other investors world-wide. "Failure of either of them would cause great turmoil in our financial markets here at home and around the globe," Mr. Paulson said.

By taking this action, the government has seized control of the vast bulk of the secondary market for home mortgages and will have a more direct responsibility than ever for solving the housing crisis.

The move is likely to nudge down mortgage rates for consumers, who are facing the worst housing bust since the 1930s. Despite steep interest-rate cuts by the Federal Reserve, the cost of a typical 30-year fixed-rate mortgage has remained well over 6% for most of the past year. To bolster the mortgage market, Treasury said it will buy, on the open market, at least $5 billion of new mortgage-backed securities issued by Fannie and Freddie.

Many economists and analysts believe the government had to wade deeper into the mortgage market because for now "private markets are just not willing to put up the capital" for home mortgages at prices U.S. consumers could afford, said Susan Wachter, a professor of real estate and finance at the University of Pennsylvania's Wharton School. Without government support for the mortgage market, home prices would fall much further, exposing the country as a whole to greater economic strain, Ms. Wachter says.

Fannie and Freddie's credit problems are largely a reflection of the overall weakness in the housing market.

Homeowners:

Dr Gaines, Economist of the Texas A&M Real Estate Center offers this advice:

“Put your money into Gold and Unique-Rare Real Estate”

The government takeover of Fannie Mae and Freddie Mac may help home buyers and certain homeowners interested in refinancing by lowering mortgage rates, and luring more buyers to the housing market in turn could prevent additional declines in residential prices. Bankrate.com senior financial analyst Greg McBride believes the 30-year fixed mortgage rate could slip upwards of 0.50 percentage points from its current level of 6.35 percent. Borrowers also would benefit if the government lowers or scraps fees imposed by the companies to safeguard against rising credit risk and mortgage-related losses. However, experts say delinquent borrowers or those whose mortgage balances exceed their home's value will not benefit from the bailout. From "Fannie, Freddie Deal Helps Some Borrowers, Not All"
Associated Press (09/08/08) Elphinstone, J.W.

The government takeover of mortgage financiers Fannie Mae and Freddie Mac could mean lower interest rates for many borrowers but is unlikely to solve one of the biggest problems of the credit crunch: the shrinking number of people who can get a loan in the first place.

Fannie and Freddie will be permitted to expand their direct investments in mortgage-backed securities from $1.5 trillion to $1.7 trillion over the next year. With the government standing behind their debts, investors are also expected to be more willing to buy mortgage-backed securities guaranteed by Fannie and Freddie.

That could push the rate for a 30-year fixed-rate conforming mortgage down from 6.35 percent last week to "well below" 6 percent, according to Mark Zandi, chief economist at Moody's Economy.com.

Rates are already coming down to around 6 percent today, but it will take 30 to 45 days to get a sense of how the takeover will ultimately affect rates, said John Courson, chief operating officer of the Mortgage Bankers Association.

Today's lower rates "could be a one-day reaction," Courson warned. But the Treasury's actions have "put a safety net under (secondary markets where mortgages are sold) that restores investor confidence ... that should be a driver that leads to lower rates."

In a commentary for Moody's Economy.com's Dismal Scientist newsletter, Zandi said lower interest rates won't stop further house-price declines, but "raises the odds" that those declines will not exceed 5 percent to 10 percent of current levels.

Columbia Business School real estate professor Chris Mayer has estimated that higher borrowing costs -- as reflected by the unusually wide spread between mortgage rates and Treasurys -- has increased the cost of owning a home by 10 percent to 20 percent (see story).

With the government's explicit backing of Fannie and Freddie's debt, Zandi and others think the spread will return to levels more in line with historic norms.

"The immediate impact, already in evidence today, is clearly that the spreads between U.S. Treasurys and Fannie and Freddie securities have gotten a lot narrower," said Robert Satnick, chairman of the California Mortgage Bankers Association. "A tremendous amount of uncertainty has been taken out of the conforming mortgage market."

Dan Green, a loan officer for Chicago-based Mobium Mortgage Group Inc., sees mortgage rates improving in the short term, which will make homes more affordable by lowering borrowers' monthly payments. But Green, the author of The Mortgage Reports blog, sees a recovery in housing markets tied less to mortgage rates than to the availability of credit.

Until would-be home buyers and homeowners who have been "frozen out of the mortgage market in the last 12 months" have access to money, "a recovery won't be as quick as it should be," Green said.

While Congress has raised the conforming loan limit -- the ceiling for mortgages eligible for purchase or guarantee by Fannie and Freddie -- many borrowers in high-cost markets remain in "jumbo loan" territory.

Congress and the Bush administration have been allowing Fannie and Freddie to purchase and guarantee mortgages of up to $729,750 in high-cost markets until the end of the year. But the cap will be lowered to $625,550 on Jan. 1, and in markets where home prices didn't head into the stratosphere the old $417,000 conforming loan limit has remained in place.

So far, Fannie and Freddie haven't done much with the authority they were granted to purchase and guarantee mortgages above the old conforming loan limit. But with an infusion of capital from the Treasury, "they will have the financial muscle to do what Congress originally intended," Zandi said.

Because Fannie and Freddie aren't allowed to turn jumbo loans into guaranteed securities that are purchased by investors, those loans are costlier and harder to obtain. That's an especially acute problem in high-cost markets like California, where many homes are priced well above the conforming loan limit.

Satnick said it's too early to judge the impact of the takeover on the "nonconforming" (jumbo) loan market, but he doesn't expect the spread between the rates for conforming and jumbo loans to grow any wider. That means that if rates on conforming loans do come down, jumbo rates should follow suit.

Courson also expects jumbo and conforming rates to move in sync, although the margin between conforming and jumbo loans won't necessarily narrow, he said.

Those seeking a loan that falls within Fannie and Freddie's limits must still cope with higher fees and tightened underwriting standards instituted during the downturn. Many borrowers are being told to bring larger down payments to the table, if they can get a loan at all. Fannie and Freddie have eliminated zero-down loans, and many private mortgage insurers are requiring minimum down payments of 5 percent in declining markets.

Green said many of the changes Fannie Mae instituted in its latest version of its automated underwriting system, Desktop Underwriter 7.0, are more subtle and have not been widely publicized, but have a real impact on housing markets. When purchasing investment properties, for example, borrowers can't use rental income from the property to qualify unless their loan-to-value (LTV) ratio is 70 percent or less.

"If you are getting $2,500 a month in rent, and making a 20 percent down payment, to Fannie and Freddie that $2,500 doesn't exist," Green said. "When you get into the deep, dark changes in the guidelines, it goes beyond (loan-to-value ratio), but to a desire of having a risk-free loan."

In announcing a $2.3 billion quarterly loss last month, Fannie Mae officials said the changes they've made to Desktop Underwriter helped reduce by 80 percent purchases and guarantees of the kind of mortgages that accounted for most of their losses. Fannie Mae said it would stop buying Alt-A mortgages -- riskier loans often made with little or no documentation -- altogether by the end of the year.

While critics have derided Alt-A mortgages as "liar loans," they can be the only option for some buyers, including investors and the self-employed. Alt-A loans aren't inherently bad, but did perform poorly when other risks were "layered" on top of them, Courson said.

"It's the risk layering -- high LTV, no income verification, no FICO -- that's where those loans get into trouble," Courson said. Although the MBA does not advocate a return to "some of the ill-conceived credit practices" that helped produce the current crisis, it would encourage the government, in its role as conservator of Fannie and Freddie, to reconsider some of the recent guideline changes.

One reason Fannie and Freddie instituted new fees and tightened guidelines was the need to generate revenue and raise capital, Courson said. With the government preparing to provide $100 billion each in backing for Fannie and Freddie, that's a less immediate concern.

"I think there were some loans they made a decision not to make that may well become available" again, Courson said.

The government takeover is viewed as a short-term solution -- the Treasury Department's authority to backstop Fannie and Freddie expires at the end of next year. It will be up to the next administration to determine whether the government will step in and take over the role Fannie and Freddie played in the mortgage markets, or perhaps spin them off as private companies once they return to health.

Courson said the crisis presents an opportunity to take a step back and look not only at how Fannie and Freddie might be fixed, but at the secondary mortgage market as a whole. One question to consider, he said, is whether the Federal Home Loan Banks could be allowed to purchase and securitize loans made or purchased by their member banks.

"This is an opportunity to take a blank sheet of paper, and ask what is the best structure, without limiting ourselves to what we've got," Courson said.

In announcing the takeover Sunday, Treasury Secretary Henry Paulson said there is an inherent conflict in the way Fannie and Freddie are structured -- as private companies that aim not only to generate profits for shareholders but fulfill a public mission as defined by Congress.

The problem with that dual mission, critics of Fannie and Freddie have said, is that shareholders reap the benefits when times are good, and taxpayers foot the bill if things go wrong.

"There is a consensus today that these enterprises pose a systemic risk and they cannot continue in their current form," Paulson said. "Government support needs to be either explicit or non-existent, and structured to resolve the conflict between public and private purposes."

Warren Buffett told CNBC Becky Quick that Treasury Secretary Henry Paulson "did exactly the right thing" when the government took control of Fannie Mae and Freddie Mac over the weekend.

Becky Quick: Mr. Buffett, thank you for joining us this morning. I want to get your thoughts on this plan for Fannie Mae and Freddie Mac.

Warren Buffett: Well, I think the Secretary (Paulson) did exactly the right thing. I don't think there was an alternative that was anywhere close to this one in terms of calming the markets, in terms of providing an ongoing function for the two that makes any change less abrupt, the changes that are going to occur with the two companies. So I couldn't, I wouldn't have changed anything in the plan myself.

Becky: There are some people who would say, 'Why not wash out the common shareholders, at least? Why put the taxpayers at risk?' What would you say to that?

Buffett: Well, the common shareholders are going to get nothing until the Treasury gets paid back, and even then, as I understand it, the Treasury is getting a warrant at a nominal sum for 79.9 percent of the resulting common, so assuming there is anything left for the common four or five years down the road, the Treasury will get 80 percent of it, so they're getting paid very well for stepping in. And like I say, the question of whether the common gets anything is problematical. The common is an option at this point.

Becky: Earlier this morning, Steve Liesman was talking to the Secretary of the Treasury, and pushed him on that point, trying to figure out how much taxpayers would be on the line for. I guess there's no way to really know that. But do you have concerns about the taxpayer?

Buffett: Well, the Treasury, in effect, for them to lose anything the preferred and the common have to get wiped out. And that may very well occur. So the Treasury is on the hook for something but this is the best solution. I mean, I think they committed up to a 100 billion to each company. But as a practical matter, they're going to have to be in this picture until Freddie and Fannie have shrunk considerably in terms of their portfolio and really have gotten into a profit-making position. And, it's, how far the housing decline goes will determine how
much, if anything, the Treasury loses. But whatever they lose from this plan, if they hadn't acted there were going to be greater losses down the road. Freddie and Fannie had played out the string, as it were, and the government was on the hook. I mean, they got into this position many, many decades ago when they got into, sort of, half-slave, half-free position where they said, 'We don't guarantee Freddie and Fannie's obligations," and wink-wink. So the whole world assumed it, and in the last six months or so, the spreads on the mortgage-backed debts of Freddie and Fannie that are out there started to widen out. So people were, you had this ambiguous situation and this clears up all the ambiguity.

Becky: You've spoken with the Secretary, with Secretary Paulson about this?

Buffett: Just yesterday he called me. We had a very short conversation. But it was fait-accompli. I had nothing to do with this proposal at all.

Becky: Paulson has also expressed some concern that there two programs, both Fannie and Freddie, are just too big. Did you agree that the portfolios should be scaled back?

Buffett: Well, I would probably go even further. They're talking about scaling them back to 250 billion each. The portfolios are what really got them into the trouble. The portfolios were the ways that the managements of Freddie and Fannie tried to juice up the earnings, basically, because the insurance guaranteed that they were given that mortgage. I always thought that made a lot of sense. But the portfolio operations enabled both of those entities to use, in effect, government-related borrowing costs and sort of unlimited credit, to set up the biggest hedge fund in the world. And as they started responding more and more to the desires of Wall Street for steady and increasing earnings, they first expanded the portfolios to run an enormous carry trade and then they started playing games with the derivatives involved to report figures that weren't really accurate. So the portfolios are poison. They aren't really needed to carry out the function of Freddie and Fannie. The government guarantee of mortgages turns them, into effect, government bond-type instruments, and those guarantees insure an enormous market world-wide, weren't made explicit as they have now, so I don't see that the portfolio activities are necessary. In fact, I think they can be quite mischievous.

Becky: In the past, you've owned major stakes in Freddie Mac.

Buffett: Berkshire was the largest shareholder in Freddie Mac in 1999.

Becky: But you got out. Is this the type of thing that would tempt you to get back in?
Movie actress Mae West, in a 1933 photograph. Buffett jokes that Fannie and Freddie followed the course West set when she quipped, "I was Snow White, but I drifted."

Buffett: (Laughs.) No, I don't think there's much to get back into. We were with them, like I say, I think we owned 8-1/2 percent or so of Freddie Mac in 1999, but they unfortunately followed the course of Mae West when she said, 'I was Snow White, but I drifted.' (Laughter.) Both Freddie and Fannie not only drifted, I mean, they were blown away.

Becky: Joe and Carl?

Joe Kernen: I did have one. Mr Buffett, I know that the size of Fannie and Freddie, you've made comments that the only entity that could help would be probably the U.S. government. Let's just say that you were the U.S. government here. The terms of the deal, would Warren Buffett be happy if he was the government right now? Is there anything that you would have done differently to protect taxpayers at this point? Is it a good deal?

Buffett: It's the best deal, and the most sensible deal available now. You can argue that there should have been some different rules put in decades ago in terms of what these companies have done, and it wouldn't have come to this, but those rules weren't put in by this Administration, or this Congress or this Treasury Secretary, and they face the problem of, in effect, five trillion plus of a combination of portfolio and insurance out there, and, really, chaos in the housing and mortgage markets. So, I would have made exactly, I would have, insisted on something like that, really 80 percent interest at a nominal price to get in there in case the common did have value at some point. And I would have insisted on the priority of common over preferred. I think they made the right deal. It may cost them some money, but it's going to cost a lot less than anything else they would have done.

Joe: You could argue about Bear Stearns, Warren, about whether the systemic risk of Bear Stearns would have affected securities world-wide. Hard to argue with this one. I would say, being Berkshire Holdings, I mean, you're probably breathing a sigh of relief. You've got some derivatives, you've got across the board a lot of different securities that could have been affected very negatively, I guess, if this hadn't been done. You must be breathing a sigh of relief as well, right?

Buffett: Well, I suppose you could say that, although Joe, I would say that if there is chaos in the market, if would probably net as good for us over a long period of time. But you're quite correct that, if Bear Stearns was an 8.5 on the Richter, the financial Richter scale, this was about a 9.9 or something of the sort. It would, the government really had no choice but to do something, and the question is, is what they did the most sensible thing, and they did do that.

Carl Quintanilla: Warren, you've been on this show more than a couple times telling people that the economic correction we're in is going to be harder, deeper, more severe than a lot of people expect. Has the move by Treasury done anything to alter your macro view?

Buffett: Well, they've certainly done the right thing. So, where it would have been without doing this, I think, would have been worse than having done this. Now it doesn't solve all our problems or anything of the sort, but it's a big, big step in the right direction.

Becky: Warren, I want to thank you very much, Mr. Buffett, for joining us this morning. We do appreciate it. We appreciate your weighing in.

The U.S. takeover of mortgage giants Fannie Mae and Freddie Mac is perceived as a welcome step, Jean-Claude Trichet, President of the European Central Bank and chairman of the global economy meeting at the Bank for International Settlements.

“To rescue Fannie Mae and Freddie Mac, we noted it was a very important decision, a welcome decision, taking into account the circumstances,” Trichet said at a press briefing following the global economy meeting.

Trichet declined to elaborate on whether central bankers noted the U.S. decision with relief or uncertainty, but repeated that the move was welcomed by the global central banking community.

Federal Reserve Bank of Dallas President Richard Fisher said

“This decision was made by the United States Treasury,” with the Fed playing only a “consultative” role.

Long term, he said, it will be up to a new Congress and president to decide the fate of Fannie and Freddie after the November elections.

Fisher also noted that he expects overall economic growth to be “anemic” in the short term, although he said he’s optimistic it will get “back up to cruising speed” sometime in 2009.

Mortgage Rates Are Plunging--For Those Who Qualify

In the days since the government assumed control of Fannie Mae and Freddie Mac, HSH Associates says the 30-year fixed mortgage rate has dropped to about 6 percent.

While many borrowers are rushing to lock in the new rates, experts point out that only those borrowing less than $729,750--the new conforming loan limit--will qualify for the lower rates.

Moreover, with lenders implementing rules slated to take effect at Fannie Mae in 2009 that mandate 15-percent down payments, more borrowers will find it difficult to secure financing.