Fannie’s Dismal Financial Results

Earlier I wrote a short post about Fannie and Freddie going hand in hand off into the sunset to be replaced by who knows what. I should have included this in the post but I hadn’t noticed it and it shouldn’t go unnoticed.

This is from Fannie’s press release detailing its results for Q2. I will only pick out a couple items but if you have time you might want to peruse the whole thing.

Fannie Mae (FNM/NYSE) reported a loss of $14.8 billion, or ($2.67) per diluted share, in the second quarter of 2009, compared with a loss of $23.2 billion, or ($4.09) per diluted share, in the first quarter of 2009. Second-quarter results were driven primarily by $18.8 billion of credit-related expenses, reflecting the ongoing impact of adverse conditions in the housing market, as well as the economic recession and rising unemployment. Credit-related expenses were partially offset by fair value gains. The company also reported a substantial decrease in impairment losses on investment securities, which was due in part to the adoption of new accounting guidance.

Taking into account unrealized gains on available-for-sale securities during the second quarter and an adjustment to our deferred tax assets due to the new accounting guidance, the loss resulted in a net worth deficit of $10.6 billion as of June 30, 2009. As a result, on August 6, 2009, the Director of the Federal Housing Finance Agency (FHFA), which has been acting as our conservator since September 6, 2008, submitted a request for $10.7 billion from the U.S. Department of the Treasury on our behalf under the terms of the senior preferred stock purchase agreement between Fannie Mae and the Treasury in order to eliminate our net worth deficit. FHFA has requested that Treasury provide the funds on or prior to September 30, 2009.

I think a fair assessment of that statement is that the company is incapable of operating at a profit and the results would have been worse had it not been for certain accounting adjustments. That view is, I think, bolstered by this:

Combined loss reserves were $55.1 billion on June 30, 2009, up from $41.7 billion on March 31, 2009, and $24.8 billion on December 31, 2008. The combined loss reserves were 1.80 percent of our guaranty book of business on June 30, 2009, compared with 1.38 percent on March 31, 2009, and 0.83 percent on December 31, 2008.

We are experiencing increases in delinquency and default rates for our entire guaranty book of business, including on loans with fewer risk layers. Risk layering is the combination of risk characteristics that could increase the likelihood of default, such as higher loan-to-value ratios, lower FICO credit scores, higher debt-to-income ratios and adjustable-rate mortgages. This general deterioration in our guaranty book of business is a result of the stress on a broader segment of borrowers due to the rise in unemployment and the decline in home prices. Certain states, higher risk loan categories and our 2006 and 2007 loan vintages continue to account for a disproportionate share of our foreclosures and chargeoffs.

Total nonperforming loans in our guaranty book of business were $171.0 billion on June 30, 2009, compared with $144.9 billion on March 31, 2009, and $119.2 billion on December 31, 2008. The carrying value of our foreclosed properties was $6.2 billion, compared with $6.4 billion on March 31, 2009, and $6.6 billion on December 31, 2008.

The scope of the losses truly is beyond comprehension. I suspect that we have not yet been told the truth with respect to the extent that the books of business of Fannie and Freddie have been compromised. The following graph (via Calculated Risk) serves to illustrate the depth of the problems they face:


According to the author of the article, Sam Khater, senior economist, First American CoreLogic said of this data, “To say there is a second wave implies the (current) wave has receded,” Khater told me. “I don’t see that the wave has receded.”

And therein lies the problem for Fannie and its twin Freddie. They are in the midst of the problem not anywhere near the end. The numbers that they posted today may be the best we shall see for some time.

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