The New York Times has got a story this morning by Charles Duhigg about the potential colossal failure of Freddie Mac and Fannie Mae, the two giant mortgage companies.
From the story: “Fannie and Freddie do not lend directly to home buyers. Rather, they buy mortgages from banks and other lenders, and thereby provide fresh capital for home loans. The companies keep some of the mortgages they buy, hoping to profit from them, and sell the rest to investors with a guarantee (emphasis added) to pay off the loan if the borrower defaults.”
Apparently, the two companies have $5 trillion (with a T) of these type of commitments and a capital cushion of $83 billion. There are also questions about their accounting methods as they are not booking losses by adopting legal, though obscure, financial shenanigans.
Bottom line? If housing prices continue to decline, this will be the mother (and father) of all bailouts. I don’t even want to think about it.
Update: Fannie reports $2.5 billion loss; warns of severe weakness in housing.