It is official - Taxpayers now own Fannie Mae/Freddie Mac

It was a rumor on Saturday, and not it is a reality. The government has seized Fannie Mae and Freddie Mac, putting the companies into conservatorship. This means that the taxpayers of the United States of America have now assumed the risk for hundreds of thousands of mortgages. This plan will wipe out current shareholders, apparently, and rumors are now indicating that the reason for the seizure was a discovery that both companies were falsifying their accounting to overstate their capital reserves.

Be expecting to hear calls for prison time for the ex-Execs of both companies. And a sharp drop in the stock market Monday morning.

Freddie Mac and Fannie Mae to be seized?

After spending billions bailing out Bear Stearns, it appears that Freddie Mac and Fannie Mae may be placed in a conservatorship by the government in order to safeguard the mortgages they own. This would wipe out the shareholders for both corporations. Typically, both companies have been seen as "safe" stocks, because the companies were guaranteed by the government. This is sure to send shock-waves through the economy, though additional insurance behind mortgages will probably be a good thing in the long-term.

Fannie Mae Meltdown Explained

If you are a normal person, you may have seen all the headlines about "Fannie Mae" and "Freddie Mac" over the weekend and wondered why the economy cares about two old people with weird names. But these are both quasi-government lending companies which are on the verge of being officially taken over by the Federal government. This article attempts to explain the crisis in Fannie Mae in a way that a layman can understand.

By the time I showed up in the mid-1990’s, Fannie Mae had become one of the largest buyers of its own securities. Its stock was up over 40X from it’s 1980s nadir and it seemed as though the single biggest problem it had was deciding on how much money it wanted to make. This was a bigger problem than you might imagine because as a quasi-government agency, and a constant political football, Fannie Mae realized it couldn’t be seen to be abusing its market position. So rather than go crazy and buy every mortgage security in sight, Fannie Mae just settled on charting a nice predictable upward growth in earnings fueled largely by buying an ever increasing share of its own securities.

Now a normal private company could not pursue this strategy because as it issued more and more debt to fund the golden goose, the yields on the incremental debt would start to increase to the point where the strategy no longer made sense. But Fannie Mae was different. Because of the implicit government guarantee of its debt, Fannie could issue incremental debt with little or no regard to its existing debt load because everyone assumed the federal government would backstop the debt.

The more I hear, the more I think the operative term in the financial meltdown is "hubris". So many people doing so many stupid things with the assumption they'd be able to cash out before it collapsed.