Fannie, Freddie Would Need $100BN Bailout In New Financial Crisis

Tyler Durden's picture

While the latest Fed stress test found that all US commercial banks have enough capital to survive even an "adverse" stress scenario, a severe recession in which the VIX hypothetically soars to 70, the two US mortgage giants would not be quite so lucky: according to the results from the annual stress test of Fannie Mae and Freddie Mac released today by their regulator, the Federal Housing Finance Agency, the "GSEs" which were nationalized a decade ago in the early days of the crisis, would need as much as $100 billion in bailout funding in the form of a potential incremental Treasury draw, in the event of a new economic crisis.

Under the "severely adverse" scenario, i.e., a "severe global recession" U.S. real GDP begins to decline immediately and reaches a trough in the second quarter of 2018 after a decline of 6.50% from the pre-recession peak. The rate of unemployment increases from 4.7% to a peak of 10.0% in the third quarter of 2018. CPI declines to about 1.25% by the second quarter of 2017 (so not that much further from here) and then rises to approximately 1.75% by the middle of 2018. Outright deflation is not even considered.

In addition, equity prices fall by approximately 50% from the start of the planning horizon through the end of 2017, and equity volatility soars, approaching levels last seen in 2008. Home prices decline by approximately 25% , and commercial real estate prices fall by 35% through the first quarter of 2019.  The Severely Adverse scenario also includes a global market shock component that impacts the Enterprises’ retained portfolios. The global market shock involves large and immediate changes in asset prices, interest rates, and spreads caused by general market dislocation, uncertainty in the global economy, and significant market illiquidity. Option-adjusted spreads on mortgage-backed securities widen significantly in this scenario.

Most interesting is the following provision in the "severly adverse" scenario: the global market shock also includes a counterparty default component that assumes the failure of each Enterprise’s largest counterparty. Which, of course, is ironic because the Fed's own stress test of commercial banks did not anticipate any bank failing. The global market shock is treated as an instantaneous loss and reduction of capital in the first quarter of the planning horizon, and the scenario assumes no recovery of these losses by the Enterprises in future quarters.

The two companies, which buy mortgages from lenders, wrap them into securities and make guarantees to investors in case the loans default backing more than $4 trillion in securities, would need to draw between $34.8 billion and $99.6 billion in U.S. Treasury aid under a “severely adverse” scenario, depending on how they treated assets used to offset taxes, of which $42.6 billion would go to Freddie and $57 billion to Fannie. The losses would leave $158.4 billion to $223.2 billion available to the companies under their bailout agreements.

The US government nationalized Fannie and Freddie in 2008, injecting them with $187.5 billion in bailout money. Nearly ten years later they will have repaid taxpayers about $275.9 billion by the end of next month, assuming they pay their combined September dividend of about $5 billion. The companies have as much as $258 billion in taxpayer funding available under the terms of the PSPA funding commitment.

According to Bloomberg, the surprisingly large funding "stress" gap is likely to be used both by proponents of letting the two companies build a larger capital buffer and by some policy makers who think such an effort isn’t needed.

Recall that one of the longest-running financial debates within the financial community is whether the Treasury overstepped its boundaries when it bailed-in GSEs shareholders as part of their rescue in 2007, with various activist shareholders demanding a return to the pre-bailout status quo, a move which would likely result in substantial equity upside. Under the current terms of their bailout agreements, Fannie and Freddie are required to turn over nearly all profits to Treasury in the form of dividend payments. They are currently permitted to retain a capital buffer of $600 million apiece, a level which will fall to zero next year.

FHFA Director Mel Watt has warned against letting the buffer disappear and said he may allow the companies to build some capital. The retained earnings, which would cut the taxpayer dividend, would only be enough to protect against small losses rather than the dramatic impact of a severe crisis, Watt and other FHFA officials have said.

Meanwhile, as the debate over the proper size of the GSE buffer continues, the two companies have taken other steps over the past eight years to reduce their risk of losses in another crisis and reduce their reliance on a loss buffer. The companies’ books of business are experiencing their lowest default rates in years, and both have accelerated sales of new securities designed to protect them from some losses if defaults increase.

While the losses projected in Monday’s report will not be large enough to eat through the full funding commitment available to the two companies, Mel Watt and others have said that they’re unsure of how the mortgage-bond market would react if the funding started to fall. Under the bailout agreements, the funds can’t be replenished. They can, however, be bailed out all over again and likely will be if the "severely adverse" scenario envisioned indeed strikes.

The silver lining in this year's report is that Fannie and Freddie’s bailout funding need was lower than estimated in prior years, "reflecting both slightly different tests and improving risk profiles at the companies." Last year, FHFA said the companies would need as much as $126 billion, while in 2015 the agency said they would need up to $157.3 billion.

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Bill of Rights's picture

Just value Bitcoin at $1,000,000 a coin problem solved.

jcaz's picture

Sorry, I'm all tapped out.

Guess you'll all lose your houses, and I'll buy them for what they're really worth;

Almost like a free market again.........

Paul Kersey's picture

There has been a record land grab of single family homes by corporate entities. For instance, Trump's Treasury Secretary, Steven Mnuchin, teamed up with George Soros to cash in on taxpayer subsidies in their rape and plunder of IndyMac bank mortgages and foreclosed houses. Without Government-backed mortgages from Freddie and Fannie, Corporate entities would have to sell those houses at a loss. Without Government-backed mortgages, the whole real estate industry would suffer a collapse in prices. But then, of course, average individuals could afford to buy houses, putting an end to corporate entity single family home ownship monopolies.

Raffie's picture

Or Litecoin $1600 would work for me as well.

Fartboxbuffet's picture

Who are frannie and freddie just give them all of americas personal assets

Yen Cross's picture

  Just like EVERYTHING .zog >  Multiply X10 and you get the real figures.

 Ummm, I loves me those yuuge $10k toilet seats in the outhouse.

nmewn's picture

Hire Franklin Raines, he'll clean it up!...LMAO!!!

He's tanned, rested & ready ;-)

Yen Cross's picture

lol, That was funny nmewn. 

  I'm sure Angelo Mozilo has some spare consulting time to Pro BONO those GSA DingDongs tm

nmewn's picture

It'll be just like the old times! ;-)

smallbedbug's picture

majority of homes are paid in cash. 

Son of Captain Nemo's picture

That's with a "T" not a "B" folks!!!


flacorps's picture

Suppose something TBTF *doesn't* get bailed out? Do brain-eating zombies come and get all of us?

Duc888's picture



Didn't SCUMBAG Obama raid these to cover oBOMBa-care in the last three years?

Pumpkin's picture

According to the information released due to Bloomberg's lawsuit, the last finacial bailout was $16 trillion.

Bobportlandor's picture

The Big Con

they will have repaid taxpayers about $275.9 billion by the end of next month after printing 10 trillion.



yellowsub's picture

Now the bigger question is how much is the FEDs holding if they need $100 billion...

oldmanofthesee's picture

Wait a minute! Haven't we been draining Freddie/Fannie profits, to pay Obumacare subsidies to the insurers? How is this possible? (sarc)

Seasmoke's picture

Close the doors. They are criminals.

Schmuck Raker's picture

Fannie and Freddie need to be FDIC insured. That'll fix it.

ChimiBonga's picture

Dem Fanny Farmer chocolates, doe

JailBanksters's picture

It's a gift that keeps on ... taking

Ten years from now, they'll be back for more again.


Swamp Yankee's picture

Let it burn.


Long on kero.

1.21 jigawatts's picture

Actually they need 100 billion Goyim to be

used as batteries with electrodes in their heads and...

you probably saw The Matrix.

BetterRalph's picture

phony and fraudy or fraudy and phony - I've forgotten again

whatisthat's picture

I would observe financial risk would be addressed for there programs though effective business planning and management, and removal of corruption and self-interest.