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Fannie Mae and Freddie Mac to Increase Lending by $200 Billion

March 19, 2008

In the latest move by the government to fix the mortgage crisis, restrictions on Fannie Mae and Freddie Mac have been eased. The Office of Federal Housing Enterprise and Oversight (OFHEO) reduced the capital requirements from 30 percent to 20 percent. The measure will provide Fannie and Freddie with an extra $200 billion for the mortgage backed securities market. That extra capital will allow the two firms to purchase or guarantee $2 trillion in mortgages this year.

The two companies have a total mortgage loan portfolio and guarantees of $4.5 trillion. The $2 trillion addition is a significant expansion of their role to stabilize the housing market. The measure is expected to help lenders provide loans at a lower rate of interest. Lending and interest rates have risen as many subprime loans have defaulted.

“Fannie Mae and Freddie Mac have played a very important and beneficial role in the mortgage markets over the last year,” said James B. Lockhart, OFHEO director. “We believe they can play an even more positive role in providing the stability and liquidity the markets need right now.”

Just last month the Congress passed a stimulus package that included a temporary increase on the limits that Freddie and Fannie can purchase. The $417,000 cap was raised to $729,000 for the highest cost markets.

The current mortgage crisis has forced many lenders out of business and forced others to reduce the number of loans they will make. Falling home prices and a record number of foreclosures have decreased the value of mortgage securities decreasing the availability of new loans. The combination of factors has created a drastic reduction of liquidity in the mortgage market. The aggressive actions by the government are meant to help restore liquidity and the normal functioning of the mortgage market.

JP Morgan Chase agreed to increase its bid to take over investment bank Bear Stearns to $10 a share. The latest bid is an increase over the $2 per share announced March 16^th.

In the latest sign of the ongoing credit crisis, investment bank Bear Stearns agreed on March 16th to be taken over by JP Morgan Chase. The original price of $2 a share was a stunning collapse of one of the oldest investment banks on Wall Street. The $2 per share price values the company at $236 million, compared to a value of $8.3 billion two weeks earlier.

The sale was made necessary because of a classic “run on the bank.” Numerous clients had demanded their money from Bear Stearns due to rumors of poor financial health. Since Bear Stearns is so leveraged it could not meet the demands and required an immediate increase in funds. JP Morgan agreed to take over Bear Stearns liabilities. In an unusual move the Federal Reserve provided a $30 billion credit line to JP Morgan to facilitate the transaction.

In the updated terms announced today, JP Morgan will also receive 39.5% of Bear Stearns by buying 95 million newly issued shares. The newly issued shares and higher price are aimed at ensuring the deal goes through and to appease shareholders unhappy with the original lower price. The Fed’s role was renegotiated to guarantee $29 billion, instead of $30 billion, of Bear Stearns assets while JP Morgan will now absorb the first billion of potential losses.

Bear Stearns was one of the largest providers of collateralized debt obligations (CDO’s) the last five years. CDO’s are financial products that pool home mortgage securities and then are sold to investors. The CDO’s were a major force in the increase in subprime mortgage lending which contributed to the recent housing inflation and bubble. The decrease in home prices has caused the CDO’s to drop in price causing hundreds of billions in losses for banks, brokerages and investors.

Increase In Conforming Loan Limits Will Lower Interest Rates For Jumbo Mortgages

February 13, 2008 -

The new law President Bush signed providing $170 Billion of economic stimulus also includes an increase in conforming loan limits. The bill increases the limit on mortgages that the Federal Housing Authority (FHA), Fannie Mae and Freddie Mac can purchase from $417,000 to up to $729,750 for a period of one year.

After a loan is originated it is sold on the secondary market. Government entities can only buy loans that are below the conforming limit. Since this creates more demand below the conforming limit the interest rate charged is lower. Above the conforming limit less investors bid for the loans so a higher mortgage interest rate is charged. As mortgage defaults have increased investors have been reluctant to purchase jumbo mortgages driving up interest rates on large loans.

Normally the difference between conforming and jumbo loans has been ¼ percentage point. However, because of the increasing number of loan defaults and lender bankruptcies in the subprime crises, now the difference is over one percent. Thus under the new guidelines many homeowners with a mortgage from $417,000 up to $729,000 may see up to a full percentage point decrease in their mortgage interest rate. This can result in a savings of hundreds of dollars every month on their mortgage payments. Many homeowners will refinance their mortgage to capture the lower interest rates.

The exact amount of the conforming loan increase will be different for each county. Within 30 days the Department of Housing and Urban Development (HUD) will publish a new conforming loan amount that is 125% of the local median home price with an upward limit of $729,750. The local conforming loan amount should be available in March at www.hud.gov. The increase in conforming loan amount is temporary and will expire December 31, 2008.